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Market Guides > Spot & forward foreign exchange

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Published: 12th October 2009 by William Webster

Introduction

Foreign exchange is defined as "a claim to a foreign currency payable abroad and may be funds held, bills or cheques".

A foreign exchange transaction is, "a contract agreed today between two parties to trade an agreed amount of one currency for an agreed amount of another currency on a future date".

When you travel you may be familiar with buying currency at the airport. Because the sums involved are small and paper money is exchanged the differences between buying and selling prices can be wide. You may also be unfortunate enough to pay a dealing fee.

Banks, corporates and speculators deal in the professional market. Trades are transacted across electronic platforms and each trade can run into millions of dollars. As a consequence dealing spreads are very narrow and the money is exchanged by credits and debits to bank accounts. Let's find out about the spot and forward markets and the risks involved.

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Document Summary

The spot market. What's agreed in a trade. Where rates come from. Bid and offer rates. How dealers make money. The base currency. Reverse quotes. Settlement. Settlement risk. The forward market. Foreign exchange risk. Forward rates. Outright forward rates. Forward points. Mark-to-market & credit risk.

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