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Questions and Answers
What is the first step in the triangular arbitrage example presented?
What is the first step in the triangular arbitrage example presented?
What is the final result of the arbitrage operation starting with 1000 EUR?
What is the final result of the arbitrage operation starting with 1000 EUR?
Which currency is converted to JPY in the described arbitrage operation?
Which currency is converted to JPY in the described arbitrage operation?
What is the exchange rate used to convert USD to JPY in the example?
What is the exchange rate used to convert USD to JPY in the example?
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What is the purpose of performing triangular arbitrage?
What is the purpose of performing triangular arbitrage?
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What is the size of a Standard Lot in the foreign exchange market?
What is the size of a Standard Lot in the foreign exchange market?
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What role do market makers play in the foreign exchange market?
What role do market makers play in the foreign exchange market?
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What is the primary function of intermediaries or brokers in the foreign exchange market?
What is the primary function of intermediaries or brokers in the foreign exchange market?
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Which of the following does NOT describe the role of central banks in the foreign exchange market?
Which of the following does NOT describe the role of central banks in the foreign exchange market?
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What characteristic of the foreign exchange market allows for arbitrage opportunities?
What characteristic of the foreign exchange market allows for arbitrage opportunities?
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Which market actor typically does not own the currencies they trade?
Which market actor typically does not own the currencies they trade?
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What type of trading operation is commonly associated with individual market participants?
What type of trading operation is commonly associated with individual market participants?
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What is the smallest unit size for trades in the foreign exchange market?
What is the smallest unit size for trades in the foreign exchange market?
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What is the differential (spread) for the USD/EUR currency pair?
What is the differential (spread) for the USD/EUR currency pair?
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Which currency pair has the highest spread percentage?
Which currency pair has the highest spread percentage?
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If a market operator is buying EUR/USD at 1.1259 USD, what is the selling rate?
If a market operator is buying EUR/USD at 1.1259 USD, what is the selling rate?
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How would you express the quoting of EUR/USD based on the provided example?
How would you express the quoting of EUR/USD based on the provided example?
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What is the value at which the market operator is selling USD/JPY?
What is the value at which the market operator is selling USD/JPY?
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What is the correct formula to calculate forward points swap?
What is the correct formula to calculate forward points swap?
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If the spot exchange rate is 1.1550 EUR/USD and the one-year forward rate is 1.1350 EUR/USD, what are the forward points trading at that moment?
If the spot exchange rate is 1.1550 EUR/USD and the one-year forward rate is 1.1350 EUR/USD, what are the forward points trading at that moment?
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What does the bid price represent in the foreign exchange market?
What does the bid price represent in the foreign exchange market?
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What is the relationship between bid and ask exchange rates?
What is the relationship between bid and ask exchange rates?
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What does a higher spread indicate about a currency?
What does a higher spread indicate about a currency?
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How is the spread calculated in the foreign exchange market?
How is the spread calculated in the foreign exchange market?
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Which statement correctly identifies the forward rate based on the given spot price and forward points?
Which statement correctly identifies the forward rate based on the given spot price and forward points?
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In terms of liquidity, what effect does a lower spread have on currency trading?
In terms of liquidity, what effect does a lower spread have on currency trading?
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What is counterparty risk in the context of swap contracts?
What is counterparty risk in the context of swap contracts?
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Which factor mitigates counterparty risk in swap transactions?
Which factor mitigates counterparty risk in swap transactions?
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What characterizes a fixed-variable interest rate swap (coupon swap)?
What characterizes a fixed-variable interest rate swap (coupon swap)?
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What type of cash flows do interest rate swaps exchange?
What type of cash flows do interest rate swaps exchange?
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Which of the following is NOT a requirement for carrying out an interest rate swap (IRS)?
Which of the following is NOT a requirement for carrying out an interest rate swap (IRS)?
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What is a 'notional' in the context of a swap contract?
What is a 'notional' in the context of a swap contract?
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What is the role of a swap broker in interest rate swaps?
What is the role of a swap broker in interest rate swaps?
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What does it mean that cash flows in an interest rate swap are settled by differences?
What does it mean that cash flows in an interest rate swap are settled by differences?
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Study Notes
Foreign Exchange Market
- Foreign exchange is also known as FOREX
- Foreign exchange market is decentralized
- Transactions can be made in different sizes: standard lots, mini lots, micro lots, variable lots
- Transactions in foreign exchange market are done with leverage
- Foreign exchange market is global and the exchange rate is the same regardless of location
- Arbitrage opportunities exist due to different market hours and prices
- Arbitrage operations help prices converge
Agents of the Foreign Exchange Market
- Central banks manage their reserves and exchange rates
- Intermediaries and brokers act as middlemen between buyers and sellers
- Market makers provide liquidity to the market
- Industrial and commercial companies engage in operations related to foreign trade, financing, and international investment
- Individuals participate in the market for tourism, purchases, and financial operations
Exchange Rates
- Triangular arbitrage allows for profit-making by exploiting differences between exchange rates of three currencies
- Formula for calculating triangular arbitrage: (EUR/USD * USD/JPY * JPY/EUR) = 1
- Forward exchange rates account for the future value of currency
- Forward points are the difference between the spot rate and the forward rate
- Formula for Forward rate using Forward Points & Spot Rate: Forward Rate = Spot Rate + (Forward Points * Pip)
- Bid and Ask exchange rates are the prices at which the market buys and sells a currency
- Spread is the difference between Bid and Ask rates, representing the profit of market makers
- Spread size reflects liquidity of the currency: more liquid = lower spread
- Example of Bid and Ask rates: USD/EUR 0.8247 (Bid) / 0.8267 (Ask) with a spread of 0.24%
Swap Contracts
- Swap contracts are agreements to exchange cash flows in the future
- Interest rate swaps (IRS) exchange future cash flows based on different interest rates
- Swap contracts can be fixed-variable or variable-variable
- IRS involves two parties with different interest rate expectations
- IRS involves no exchange of principal
- IRS can be used for hedging interest rate risk
- Swap contracts carry counterparty risk: risk of one party failing to fulfill obligations
- Intermediaries can mitigate counterparty risk
- IRS is a form of hedging using swap contracts
Interest Rate Swap
- IRS requires two parties with opposite interest rate expectations
- IRS involves exchanging cash flows calculated on different bases
- IRS can be fixed-variable, where one party receives a fixed rate and the other receives a variable rate
- Notional amount is the base for calculating interest payments
- Swap Broker acts as an intermediary for buying and selling interest rate
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Description
Explore the intricacies of the Foreign Exchange (FOREX) market, a decentralized marketplace where currency transactions occur. Understand the roles of various market agents, how exchange rates function, and the concept of arbitrage that influences currency pricing. Dive into the mechanisms that enable trading and the importance of liquidity in this global financial market.
