international tradewould not be possible. For example, a Swisswatchmaker will incur expenses
in Swiss francs. When the company wants to sell the watches, they want to receive Swiss francs
to meet those expenses. However, if they sell to an English merchant, the English company will
want to pay in sterling, the home currency. In between, a transaction has to occur that converts
one currency into the other. That transaction is undertaken in the foreign exchange market.
However, foreign exchange does not only involve trade. Trade, today, is only a small part of
the foreign exchange market; movements of international capital seeking the most profitable
home for the shortest term dominates.
The main participants in the foreign exchange market are:
- commercial banks
- commercial organizations
- brokers
- International Monetary Market (IMM)
- speculators
- central banks
- funds
- money managers
- investors.
Most participants transact in foreign currency, not only for immediate delivery but also for
settlement at specific times in the future. By using the forward markets, the participant can
A spot transaction is where delivery of the currencies is two business days from the
trade date (except the Canadian dollar, which is one day).
A forward transaction is any transaction that settles on a date beyond spot.
determine today the currency equivalent of future foreign currency flows by transferring the
risk of currency fluctuations (hedging or covering foreign currency exposure). The market
participants on the other side of any trade must either have exactly opposite hedging needs or
be willing to take a speculative position. The most common method used by participants when
transacting in either spot or forward foreign currency is to deal directly with a bank, although
Internet trading is currently making impressive inroads.
These banks usually have large foreign exchange sales and trading departments that not
only handle the requests from their clients but also take positions to make trading profits and
balance foreign currency positions arising from other bank business. Typical transactions in
the bank market range from $1 million to $500 million, although banks will handle smaller
amounts as requested by their clients at slightly less favourable terms.
Source: A Foreign Exchange Primer
