There are four main categories of subjects in the foreign exchange market:
banks and non-bank dealers trading in foreign currency; individuals and firms performing commercial and investment operations; arbitrageurs and speculators; central banks and treasuries.
Banks and non-bank dealers trading foreign exchange “make the market” both technically and organizationally. They make a profit by buying foreign currency at its real price and reselling it at a slightly higher price called the “selling price.”
Individuals and firms use the foreign exchange market to facilitate their commercial and financial transactions. This group consists of exporters, importers, investors in international funds, multinational firms, and tourists. Their use of the foreign exchange market is a necessary element of their commercial and investment programs, but is sporadic. Some of these participants use the market to “hedge” (avoiding the risk associated with exchange rates).
Speculators and arbitrageurs make profits within the market itself. They operate only in their own interests, without serving customers and without ensuring the continuity of the market. For example, arbitrage participants profit from price differences between different markets.
Central banks and treasuries use the market to acquire or dispose of foreign exchange reserves; affect the prices at which their own currency is traded. They seek to influence the exchange rate in a way that serves the interests of their country.
Subjects of the foreign exchange market carry out their activities in the foreign exchange market, a specific sector of which is the stock (currency) exchange. The main function of the stock (currency) exchange is to identify the real market price of goods (exchange rate), taking into account changes in supply and demand for it. In addition to the main pricing function, modern exchanges perform other functions:
comparison of trade and actual supply and demand and identification of the real exchange rate on this basis. Stock quotes show the agreed ratio of planned and actual supply and demand on the exchange, which allows you to take into account all the factors affecting the market price; hedging. Hedging is used in futures markets to protect against adverse price fluctuations (exchange rates); exchange rate forecasting. For forecasting, both fundamental (traditional) economic analysis is used, and a specific method used only on exchanges – the so-called technical (mechanical) analysis. In practice, a combination of these methods is usually used. Forecasting price changes using the fundamental method is based on the study of supply and demand factors. Fundamental analysis is based on the following principle: any economic factor that reduces the supply or increases the demand for a currency leads to an increase in the exchange rate, and, conversely, any factor that increases the supply or decreases the demand for a currency, as a rule, leads to the accumulation of reserves and a decrease in the exchange rate. Technical analysis is the forecasting of the market situation by studying the dynamics of the exchange rate in the future, using information about past exchange rates, interest rates and other commercial parameters; stabilizing function. The process that contributes to the establishment and stabilization of the exchange rate includes the public establishment of the exchange rate at the beginning and end of the exchange day (exchange quotation), the publicity of the conclusion of transactions, the limitation of the daily fluctuation of the exchange rate to the limits established by the exchange rules, providing exchange members with information on supply and demand for various currencies. Exchange speculation, which involves a game of both increase and decrease in the exchange rate, directly has a decisive effect on the stabilization function of the exchange. Currently, speculation is treated as an element that is always present in any economy where economic decisions are made under conditions of uncertainty. Speculation in foreign exchange markets leads to a softening of price fluctuations. For example, by buying a currency at a low exchange rate, speculators contribute to an increase in demand for it. Due to the growth in demand, the price of the currency also rises. Conversely, by selling a currency at a high rate, speculators reduce high demand and, consequently, exchange rates. Therefore, speculative activities help to mitigate sharp fluctuations in exchange rates. Thus, the presence on the stock exchange of constant supply and demand, created through the mechanism of exchange speculation, contributes to the stabilization of the market and the exchange rate.
The functioning of a modern exchange in a market economy is inextricably linked with a developed system of state regulation, the purpose of which is to create conditions for exchange activities, to provide certain guarantees, first of all, to small savers and medium-sized enterprises.
The objects of the foreign exchange market are understood as currency transactions and currency values.
Currency transactions are a type of activity of the state, enterprises, organizations, banking and other financial and credit institutions for the purchase and sale, settlement and lending of foreign currency.
Currency transactions are performed in the foreign exchange markets. In accordance with the division of the foreign exchange markets into spot (cash, cash, current) and term, the corresponding types of foreign exchange operations are distinguished. At the same time, if cash (cash, current, spot) operations are carried out in the spot market, i.e. operations for the purchase and sale of currency, settlements on which are carried out no later than 2 banking days, then a variety of currency operations with a maturity of more than two banking days (i.e. in the future) are carried out in the derivatives foreign exchange market. Such operations include: currency forward operations; currency (financial) futures; currency (net) option; All of them have a similar mechanism for establishing the exchange rate and the final execution of the currency contract.
The rate applied to spot transactions is called the spot rate. The spot rate reflects how highly the national currency is valued outside the country at the time of the transaction.
Economic agents can use the services of the derivative (forward) foreign exchange market. If a participant in the foreign exchange market needs to buy foreign currency after a certain period of time, he can conclude a so-called term contract for the purchase of this currency. Futures currency transactions include forward contracts, futures contracts and currency options.
Both a forward and futures contract is an agreement between two parties to exchange a fixed amount of currency for a certain date in the future at a predetermined (term) rate. Both contracts are binding. Currency futures were first used in 1972 in the Chicago foreign exchange market. The difference between currency futures and forward operations is that:
futures are trading in standard contracts; a mandatory condition of the futures is a security deposit; settlements between counterparties to currency futures are carried out through the clearing house at the currency exchange, which simultaneously enters as an intermediary between the parties and the guarantor of the transaction.
The advantage of the futures over the forward is its high liquidity and constant quotation on the currency exchange. With the help of futures, exporters have the opportunity to hedge their operations.
A currency option is a contract that grants the right (but not the obligation) to one of the parties to a transaction to buy or sell a certain amount of foreign currency at a fixed price for a certain period of time. The buyer of an option pays a premium to its seller in exchange for his obligation to exercise the above right. Currency options are used when the buyer of an option seeks to insure himself against losses associated with the change in the exchange rate of a currency in a certain direction. The risk of losses from changes in the exchange rate can be of several types. The peculiarity of the option as an insurance transaction is the risk of the seller of the option, which arises as a result of the transfer to it of the currency risk of the exporter or investor. Incorrectly calculating the rate of the option, the seller risks incurring losses that will exceed the premium received by him. Therefore, the seller of the option always seeks to lower its rate and increase the premium, which may be unacceptable for the buyer.
Currency arbitrage operations are carried out in the derivatives forex market. Currency arbitrage is a transaction between banks for the purchase and sale of one foreign currency for another at an agreed rate with the expectation of an agreed date in order to make a profit when exchange rates change on the international market. Currency arbitrage involves the implementation of at least two opposite operations for the purchase and sale of currencies for the same amount. Banks can carry out currency arbitrage operations on behalf of clients, i.e. an enterprise represented by an authorized person (dealer), with a value date of “spot” with the mandatory closure of the position opened on behalf of the client on the date of value. At the same time, the company cannot buy or sell foreign currency funds, it instructs the bank to buy or sell currency on behalf of the bank. The mandatory terms of the transaction include the opening by the enterprise of a security deposit, the funds from which are used by the bank as compensation for possible losses of the bank when the latter conducts arbitration operations. Banks carry out operations on the amount of the position exceeding by a certain number of times (20, 25, 30, 40, 50 100) the size of the security deposit. The customer concludes an agreement with an authorized bank, according to which the bank undertakes, on behalf of the client, to carry out arbitration operations at its own expense and on its own behalf. At the same time, the bank has a risk of losses from making such transactions. Therefore, the client puts a certain amount on deposit in this bank as collateral. The amount of such a deposit is determined based on the amount of transactions concluded by the bank and the leverage provided to the client. If the bank receives a loss from the operation, the company has obligations to the bank in the amount of this loss, which are covered from the security deposit.
If the bank received a profit from the operation, then it has obligations to the enterprise in the amount of this profit. The amount received can be credited to the client’s security deposit as interest or transferred to any account that the client specifies, depending on the terms of the contract. A prerequisite is the client’s order to the bank to close the open position, since the bank plays with its own money. If this does not happen, then the bank itself can close a long position short, but at any rate.
On the world market, it is extremely rare that exchange rates in relation to each other change by more than 2%, and it is almost impossible to lose your pledge to a client with a reasonable game. If a bank employee (dealer) sees that possible losses in case of unfavorable movement of rates may exceed the amount of the security deposit, he can independently, without specifying the client, close the position with a loss not exceeding the collateral amount.
The term exchange rate is composed of the spot rate at the time of the transaction and the premium or discount, that is, a premium or discount, depending on the interest rates at the moment. A currency with a higher interest rate will be sold in the forward market at a discount relative to a currency with a lower interest rate. Conversely, a currency with a lower interest rate will be traded in the forward market at a premium to the currency with a higher interest rate.
The derivatives foreign exchange market allows you to both insure currency risks and speculate with currency.
Currency values are also objects of the foreign exchange market. These include: foreign currency; securities in foreign currency; precious metals and stones in raw and processed form, with the exception of jewelry and household products, as well as scrap of such products.
Foreign currency is used in settlements, and also serves as an object of purchase and sale.
Securities are monetary and commodity documents that testify to the property rights of their owners and are presented for the exercise of these rights. The main types of securities are shares – certificates of participation in the capital of a joint-stock company, giving the right to receive dividends, and bonds – the obligation of issuers to pay their owners annual income in the form of a fixed percentage and buy them back at the end of the validity period. Stocks and bonds are bought and sold on stock exchanges and on the over-the-counter market.
In addition to shares and bonds, securities include: certificates of deposit and savings; promissory notes; cheques; bills of lading and other documents issued in accordance with the law in the form of securities.
All securities can be classified according to several criteria:
by the nature of the relationship between the issuer and the investor: equity, confirming the fact of participation of the owner of securities in the issuer’s capital; debt, confirming the debt of the issuer to the owner of securities (bonds, deposit and savings certificates, bills of exchange); derivative securities – securities certifying the right of their owner to buy or sell other securities (“underlying” derivative securities), for example, options on securities; by the nature of the transfer of ownership: registered, which among the mandatory details contain the names of the owners. The transfer of ownership of these securities is associated with the maintenance of a register of owners (holders of securities); bearer, the transfer of ownership of which occurs when transferring these securities; order (intermediate type), the transfer of ownership is formalized by a transfer inscription on the form of securities; by the period of application: indefinite (eternal), the repayment period for which is not provided or not fixed rigidly. These, for example, are shares, as well as debt obligations of a number of European states, also called perpetual rents; long-term – the issue of such securities, as a rule, serves as an accumulation of financial resources for the reconstruction of production or new construction, i.e. aimed at the expanded reproduction of fixed capital; Short term. Their issue is associated, as a rule, with the need for working capital or with the need to reduce the amount of money supply in the country’s economy (when issuing securities by the state). The circulation period of short-term securities is no more than one year. in other countries, there are also categories of medium-term securities. In this case, long-term securities include securities with a maturity of more than 7 years; to medium-term – from 1 year to 7 years.
In addition, securities that have a market quote are highlighted. These are securities whose liquidity is high enough that in each period market participants can determine the most typical market price at which most transactions on the market are concluded in a given period.
Gold markets have a close connection with the currency markets. Gold markets are markets in which the regular purchase and sale of gold for industrial consumption (jewelry industry, medicine, electronics and other industries), for the purpose of gold thesaurus, speculation, as well as monetary purposes of central banks of various countries (purchase – in order to replenish official gold reserves, sale – in order to mobilize the necessary foreign exchange resources).
Organizationally, gold markets are usually a kind of consortia of several banks and specialized firms that, along with gold trading, carry out the refining of the precious metal (refining) and produce bullion. Consortium members mediate between buyers and sellers, concentrate bids to buy and sell, and record the average market price level (daily or several times a day).
Currently, there are 4 main types of gold markets:
free international. They are characterized by the absence of any restrictions on the part of official bodies on making transactions with gold. Freedom of operations extends to foreign individuals and legal entities. These markets operate in such world financial centers as London, Zurich, Frankfurt am Main, Brussels, Hong Kong, Singapore, Tokyo, etc .; free locals. Operate without restrictions only for residents (Paris, Milan, Madrid, Stockholm, Istanbul, Rio de Janeiro, etc.); controlled local, which are characterized by restrictions on gold transactions for both residents and non-residents (Athens, Cairo); “black” are informally functioning markets in countries where gold trade is legally prohibited (Bombay, etc.).
Even more advantageous are the countries where gold is supplemented by the extraction of diamonds, other precious stones, their cutting. However, for both types of jewels, it is important that the costs associated with their extraction do not exceed the world price. Otherwise, the mines have to be closed or modernized, investing large amounts of capital in this.
Precious stones, unlike gold, have never been a monetary commodity. Therefore, they did not set a fixed price, which set the scale of the prices of other goods. Producers of diamonds and other precious stones have consistently maintained high monopoly prices in an effort to turn the international market into a “seller’s” market. Such a goal is achievable, since there are relatively few deposits containing expensive gemstones. This allows large corporations that own them to unite and dictate prices, in accordance with the changes in the phases of the economic cycle.
Being unable to play the role of a universal equivalent, diamonds and other precious stones, however, have a number of extremely important properties for thesaurators, giving these stones great importance. This is an easy convertibility to any currency, reliability as a collateral value and the ability, together with gold, to serve as collateral for the national currency. The relatively small size and weight of the jewels make it easier to maintain the safety of export-import and collateral transportation.
The official statistics of the trade in precious stones has large gaps, which is explained by a number of reasons. Chief among them is secrecy, which is associated, among other things, with ensuring security and maintaining prices. In many cases, only production and marketing estimates are possible, but they are not reliable enough. According to a long tradition, within the framework of the diamond complex, a kind of division of labor has developed. Diamond-producing countries, with a few exceptions (Russia, India, South Africa), did not cut diamonds and produce products from them, being content with profits from the trade in rough diamonds. The largest producers of large expensive stones – South Africa, Botswana and Namibia – are closely linked to the leading financial and industrial group English-American and operate through its corporation De Beers Consolidated mins, Ltd., which heads the diamond cartel. It owns mining operations in South Africa and large stakes in Botswana and Namibian companies.