Appreciation-
Appreciation- An increase in a currency’s value under a floating exchange rate system
Covered interest arbitrage- interest rate arbitrage that includes the signing of a forward currency contract to sell the foreign currency when the foreign assets mature
Depreciation- A decrease in a currency’s value under a floating exchange rate
Exchange rate- The price of one currency expressed in terms of a second currency. Exchange rates may be measured in real or nominal terms
Interest rate arbitrage- The transfer of funds from one financial asset and currency to another to take advantage of higher interest rates
Exchange rate risk- risk that occurs when an individual or firm holds asssets that are denominated in a foreign currency. The risk is the potential for unexpected losses (or gains) due to unforeseen fluctuations in the value of the foreign currency
Foward exchange rate- The exchange rate in a forward market
Forward market- Market in which buyers and sellers agree on a quantity and a price for a foreign exchange or other transactions that takes place in (usually) 30,90, or 180 days from the time the contract is signed
Spot market-
Hedging- eliminating risk
Purchasing power parity (PPP)- exchange rates will converge where you can buy the same goods through different currency
Interest Parity
Forex- is the largest market in the world.
Exchange rate- every market is going to have a price- always a comparison between two currencies
Why hold forex currency- 1 trade and investment 2- interest rate arbitrage 3-speculate
Spot ER (exchange rate)- spot price= the current price
Forward market- future market- price
3 exchange rates regimes
-flexible ER- be determined by supply and demand in the market- fiscal Monetary
- fixed ER- government will commit to specific exchange rate
-Pegged ER- Band set it between a upper bound and a lower bound and commit within that range
Most countries are flexible
When one currency appreciates the other depreciates
Depreciation causes appreciation vice versa
Supply increases form of currency will appreciate
Supply decreases it will depreciate
Ppp (purchasing power parity)- exchange rates will converge where you can buy the same goods through different currency
Divide US price/ Other price
Long run exchange rate -
Interest rate arbitrage-
The choice of an exchange rate system varies along the continuum from completely fixed with no variation to completely flexible with variation determined by supply and demand for the country’s currency on a minute-by-minute basis.
Exchange rate- is the price of one currency stated in terms of a second currency
Arbitrage conveys the idea of buying something where it is relatively cheap and selling it where it’s relatively expensive
In general, interest rate arbitrage is a powerful force in the world economy and tends to be one of the main reasons for holding currency
Speculators are businesses that buy or sell a currency because they expect its price to rise or fall
There are four main participants in foreign currency markets- retail customers, commercial banks, foreign exchange brokers, and central banks
Exchange rate risks- firms that do business in more than one country are subject to exchange rate risks. these risks stem from the fact that currencies are constantly changing in value and as in a result expected future payments that will be made or received in a foreign currency will be a different domestic currency amount from when the contract was signed
Forward exchange rate- is the price of a currency that will be delivered in the future
Forward market- refers to the market in which the buying and selling of currencies for future delivery takes place- they are a way to eliminate the exchange rate risk associated with future payments and receipts
Forward foreign exchange markets all an exporter or importer to sign a currency contract on the day they sign an agreement to ship or receive goods
Buy and selling in the present is called spot market
Hedging- eliminating risk
Interest rate parody