Forex Rate: Forward Contract, Currency Swap and Spot Rate

Forex Rate: Forward Contract, Currency Swap and Spot Rate

Understanding rate and other concept s are not difficult to new investors in this arena rather then very interesting . Theories, models, ideas, concepts, terms in forex market for new investors are seems to be sort of problem to understand. But if we think it’s a game to acquire knowledge about forex for making money online that will help us understand forex easily. Here we discuss some forex rate and concepts so that we can realize the market easily.

Forward Contract

A forward contract is a transaction between a bank and another party – a customer or another bank – involving of a foreign currency against local currency at an agreed exchange rate on a specified future date or within an agreed time frame. This definition brings into focus some important features of forward contract transactions. First, the amount , the rate of exchange and the value date are agreed upon in advance at the time the deal is concluded. Second, no money is paid or received until the settlement date; sometimes, though, the bank may ask for a margin deposit from customer. The only thing that distinguishes a forward contract transaction from the spot rate transaction is that a spot deal is settled immediately while a forward contract deal is settle on a future date or within a definite time frame at an agreed rate. In the narrow sense, spot rate too have an element of forward contract deal in that spot sale normally involves delivery after two days.
Foreword contract transactions are either ‘outright’ or ‘Currency Swap’. An outright involves foreword purchase or sale of a currency at a foreword rate which expresses the actual price of one currency against another for delivery on a specified value date. However , as the volume of transactions picks up and exchange rate s become more responsive to the changes in the international markets, it will be convenient to use margin in forward quotations. Besides, it is the margin which is more relevant in the Currency Swap market.

Currency Swap

A Currency Swap, which is common in forex market, involves purchase or sale of a currency spot with a reverse deal in the forward contract market or simultaneous purchase and sale of forward currency with different maturities. The difference between the two is called Currency Swap margin or Currency Swap rate. the Currency Swap transactions are normally done by banks to cover their own exchange risks. In short we can say that under a Currency Swap
deal the bank buys and sells specified foreign currency simultaneously for different maturities. Thus a Currency Swap deal may involve:
1. Simultaneous purchase of spot and sale of forward or vice versa; or
2. Simultaneous purchase and sale, both forward but for different maturities.
A Currency Swap deal is done in the market at a difference from the ordinary deals. In the ordinary deal the following factors enter into the rates:
i. The difference between the buying and selling rates;
ii. The forward margin i.e. the premium or discount.
In most Currency Swap deals, the two exchanges are made the same time with the same counter party but from or sale spot to one counter party and sale to or buy out right forward from another party. This is called engineered Currency Swap compared to ‘pure’ Currency Swap. In Currency Swap market spot rate is not very important. What is important is Currency Swap rate: the premium or discount received for the forward sale of the currency which is being bought spot.

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