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In: Finance

Explain how banks/foreign exchange dealers make money off the bid-ask spread, and why you can have...

Explain how banks/foreign exchange dealers make money off the bid-ask spread, and why you can have two rate quotes on any currency. (Please answer all parts!!!!!!!!!)

Solutions

Expert Solution

Bid rate: The bid price represents the maximum price that a buyer is willing to pay for a security/Currency. We can also say that it is a rate at which bank/foreign exchange dealer buys left hand currency in a two way quote .

Ask rate: The ask price represents the minimum price that a seller is willing to receive for a security/Currency. We can also say that it is a rate at which bank/foreign exchange dealer sells left hand currency in a two way quote .

Spread: The difference between bid and ask prices.

% spread calculation:

how banks/foreign exchange dealers make money off the bid-ask spread?

Answer: In return for executing buy or sell orders, the bank/foreign exchange broker will charge a commission per trade. It is called spread. That is how forex brokers make their money. A spread is a difference between the bid price and the ask price for the trade.

One way quote: When bid rate and ask rate are same it is called one way quote..Ex: £1=$1.50

Two way quote: When bid rate and ask rate are different it is called two way quote. Ex: £1=$1.50-1.55.

why you can have two rate quotes on any currency?

Answer: As we discussed above spread the only way by which bank/foreign exchange dealer earn money in a currency trade, & spread is only possible in two way quote. Thats why two way quotes are extremely popular in a market.

On way quotes are very rare & hardly in use.

Thanks


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