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If the company is selling foreign currency the premium must be subtracted from exchange rate. If the company is buying the foreign currency the premium is added to the exchange rate. Is the statement is True? If yes then How? because if company is selling than bank is buying and buying rates are more than selling so Premium should be added while company is selling. I’m confuse about that Plz help me for this concept.
Not true!
I assume you a referring to the situation where you are given the spot rates for buying and selling, and the forward rate is quoted pm (premium) or dis (discount), rather than being quoted as an actual rate.
In which case, to get the actual forward rate, you subtract a premium from the spot rates (both the buy and the sell rate), and you add a discount to the spot rate.
(It sounds the wrong way round but if you watch my free lecture I explain both the rule and the logic 🙂 )Thanks for Help me.
This statement is present on BPP study text page No. 374 as a Exam Foucus point
$/£
1.9606 /- 0.0006
the /- 0.0006 represent the Premiumif the company is selling the foreign currency, the premium must be subtracted from exchange rate. If the company is buying the currency, the premium is added to the exchange rate.
Your lectures shows Premium must be subtracted in both cases selling and buying but in book premium added and subtracted in different cases so I was confuse about that.The example is on page 375
A UK importer knows on 1 April that he must pay a forign seller 26500 Swiss francs in one month’s time, on 1 May. He can arrange forward exchange contract with his bank on 1 April, where by the bank undertakes to sell the importer 26500 Swiss francs on 1 May at following rate:
Sfr/£ 2.6396 /-0.0004Ans 26500/2.6400 = £10037.88
Is the Ans is Right in example?Ahhh….now I understand your question.
The confusion is because you called it a premium – it is not a premium.
In the question to quote, the rate is Sfr/£ 2.6396 +/- 0.0004.
The point is that the bank always quotes two rates. This was a shorthand way for the examiner to say that the lower rate is 2.6396 – 0.0004, and the higher rate is 2.6396 + 0.0004.
So the actual quote is Sfr/£ 2.6392 – 2.6400The lower rate (2.6392) is the rate to use if we are buying the first currency (in this case Sfr) and the higher rate is the rate to use is we are selling the first currency (in this case Sfr).
This is not a case of there being a premium – don’t call it that – it is just one way the examiner can give the buy and sell rates. Also, it is not reserved for forward rates – he can give both spot rates and forward rates in the same way.
So the answer to your example is correct 🙂
(I still think that you would benefit from watching the lecture 🙂 )
but here the UK importer must pay foreign seller 26500 SFr in one month time so we need Swiss francs in One month’s time so we should use lower 2.6392 but in example higher rate 2.6400 is used
Oppps – you are quite correct.
I do not have the BPP Text, but assuming that you have typed the question correctly then their answer is wrong.
Since they are buying swiss francs, the rate to use is 2.6392 and therefore the payment in GBP will be 10041.
(It has to be whichever is worst for us, otherwise as you said at the very start we could make profits for doing nothing 🙂 )Thank u sir Its mean study text at BPP is giving wrong concept Now my Confusion is clear Thanks alot
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