Foreign Exchange Markets and the Exchange Rate Flashcards
Exchange Rate
Sets the amount of currency required to buy one unit of another
Floating Exchange Rates
A system where exchange rates are allowed to fluctuate
Activities Affecting Currency Demand
Importing
Investing
Inflation
Speculation
Gov spending (buying & selling its currency)
Interest rates
Internationally recognised currencies ($)
Dirty Floating
Where governments manipulate exchange rates by buying and selling large amounts of currencies, or altering interest rates so the exchange rate is not allowed to freely react to market conditions
Hot Money
Funds from investors which move as quickly as possible to take advantage of the highest short term interest rates
Factors Affecting Currency Supply
Trade - in order to buy imports, supply of domestic currency will be high as currency is sold in order to buy from overseas
Gov Policy - govs may sell their own currency to lower the exchange rate to make their goods seem more competitive (dirty floating)
International Capital Market
A market through which funds are provided for a variety of business and investors needs, e.g. to borrow funds for new machinery
International Foreign Exchange
Central banks, banks, companies, investment companies etc can buy and sell currencies
Central Bank
The bank responsible for keeping inflation under control and printing money
Int Capital Market: Eurocurrency
Any currency held outside the country where it is legal tender, which is borrowed and lent. Short term.
Int Capital Market: Eurocredit Market
Made up of the same banks in the Eurocurrency market, but offering longer term loans. Medium term.
Int Capital Market: Eurobond Market
A group of financial institutions, large companies, government and supranational institutions that issue Eurobonds. Long term.
Eurobond
Long term finance that typically covers a duration of 5-30 years (not necessarily based in Europe or issued in Euros)
Uses of the Forex Market
To facilitate international trade
Investment for which another currency is required due to location or nature of it
Speculation
Financial institutions making investments on behalf of their clients in foreign currencies
Managing FX rate risk i.e. buying currency in advance of when it’s needed as the rate is good
Gov Controlling of BoP
Do nothing Devaluation Import controls Deflation Supply-side policy
Types of FX Risk
Economic risk - FX movements may increase or decrease long term competitiveness
Translation - accounting concept relating to an assets value changing over time because of FX rates
Transaction Risk - Risk an FX rate will change unfavourably over time
Hedging
An investment which reduces or manages FX risk
Internal Hedging
An investment which reduces or manages FX risk which can be done within a company
Internal Hedging Techniques
Matching - receipts in a foreign currency are matched against payments made in that currency
Lagging - paying amounts due later to match against receivables in the same currency
Leading - paying amounts early in funds already received in that currency
Invoicing/paying in home currency - avoiding all currency risk by avoiding need for FX
Counter-trading - where customers are also suppliers, payment can be made in goods/services
Netting inter-co transactions - central treasury department can offset payments made
External Hedging
An investment which reduces or manages FX risk using a rage of financial products from outside an organisation
External Hedging Techniques: Forward Exchange Contracts
Non-standardised contract between two parties to buy or sell a fixed amount of foreign currency at a specified time at a price agreed on today.
Legally binding, any date can be set but can’t be changed.
External Hedging Techniques: Currency Futures
A futures contract to exchange one currency for another at a specified date in the future at a price/rate that is fixed on the purchase date.
PESTEL
Model which helps businesses consider risks and opportunities: Political Economic Social Technological Environmental Legal
