Spot rates

HI,

Here are some points ESSENTIAL to understanding forex fundamentals:

Transaction Risk / Exposure

Definition… arises when you have short-term assets or liabilities denominated in a foreign currency (i.e. Debtors and/or Creditors).

Therefore, it arises from Importing/Exporting …on credit in the foreign currency!

Foreign Exchange Markets

Spot Market (Rates):
Generally, two rates are quoted – the ‘buy’ and ‘sell’ rates. Buy and Sell currencies for immediate delivery.

Forward Market (Rates):
In the Exam these are often quoted as an adjustment to the spot rate i.e. as a ‘discount’ or as a ‘premium’

Similarly, two interest rates are usually quoted – the Deposit rate and the Lending rate

Key Rules In Fx Arithmetic:

• Add Discount; Subtract premium (Be Careful with Decimal Points!)
• For the Exam – just choose the rate that leaves you “WORSE-OFF” and you can’t go wrong!

Take example 3, Chapter 22 in the OT Lecture Notes.

Before starting your answer, ALWAYS ask yourself 3 questions:
(1) Is the exposure on a DEBTOR or CREDITOR?
(2) Will I be DIVIDING or MULTIPLYING?
(3) Which RATE will leave me WORSE OFF?

So, in the case of example 3 we have:
(1) a CREDITOR…. = to $200,000
(2) to convert we will be DIVIDING by the $ to get £’s
(3) if we are dividing then which of the two rates will leave us WORSE OFF? (i.e in the case of a creditor which rate will cost us more?).

Answer … the lower rate, i.e 1.4910 (= to £134,138)

Note: If you had divided by the higher rate (1.4970) then the cost to you in £’s will have been less than £134,138

So the rule is, whether the exposure is a DEBTOR or CREDITOR, always select the rate that leaves you worse off and you can never go wrong!

Note: if you have a DEBTOR you will be worse off when you receive LESS in the home currency.

If you are a CREDITOR you will be WORSE OFF when you have to PAY MORE in the home currency.

Practice this fundamental logic and you’ll soon get the hang of it.

Good luck, Kevin

dear kevin if we said these rule to ( caluclat the second currency we have to divided first currency by second ( spot rate ) and to calculat the first curenct we have to multiply first by second curency in the spot rat . if we are debitor we have then to bring money to bank then we have to choes the highest in the spot rat sell ( offer and if we have to make payments then we will select the lowest buy rate .

is that true??