- The foreign-exchange
departments of large international banks such as JPMorgan Chase, Barclays, and
Deutsche Bank in major financial centers like New York, London, and Frankfurt
play a dominant role in the foreign-exchange market. These banks stand ready to
buy or sell the major traded currencies.They profit from the foreign-exchange
market in several ways.
- Much of their profits come from the spread between the
bid and ask prices for foreign exchange. International banks are key players
in the wholesale market for foreign exchange, dealing for their own accounts or
on behalf of large commercial customers.
- International banks are the key players in the wholesale market for foreign exchange, dealing for their own accounts or on behalf of large commercial companies. Interbank transactions, typically involving at least $1 million (or the foreign currency equivalent), account for a majority of foreign-exchange transactions. Corporate treasurers, pension
funds, hedge funds, and insurance companies are also major players in the
foreign exchange market.
- International banks also play a key role in the retail market for foreign exchange, dealing with individual customers who want to buy or sell foreign currencies in large or small amounts. Typically, the price paid
by retail customers for foreign exchange is the prevailing wholesale exchange
rate plus a premium. The size of the premium is in turn a function of the size
of the transaction and the importance of the customer to the bank.
The clients of the
foreign-exchange departments of banks fall into several categories which is;
- Commercial
customers engage in
foreign-exchange transactions as part of their normal commercial activities,
such as exporting or importing goods and services, paying or receiving
dividends and interest from foreign sources, and purchasing or selling foreign
assets and investments. Some commercial customers may also use the market to
hedge, or reduce, their risks due to potential unfavourable changes in
foreign-exchange rates for moneys to be paid or received in the future.
- Speculators deliberately assume
exchange rate risks by acquiring positions in a currency, hoping that they can
correctly predict changes in the currency’s market value. Foreign-exchange
speculation can be very lucrative if one guesses correctly, but it is also extremely
risky.
- Arbitrageurs attempt to exploit
small differences in the price of a currency between markets. They seek to
obtain riskless profits by simultaneously buying the currency in the
lower-priced market and selling it in the higher-priced market.
Domestic laws may constrain the ability to trade a currency in the foreign-exchange market.
- Convertible currencies (hard currencies) - Currencies that are freely tradable. These include euro, the British pound, the Swedish krona, Canadian dollar, the Japanese Yen and the U.S dollar.
- Inconvertible currencies (soft currencies) - Currencies that are not freely tradable because of domestic laws or the unwillingness of foreigners to hold them. Normally, currencies of many developing countries fall in this category
