Question

Question 4 (a) Identify the five broad categories of institutional participants that operate in the foreign exchange market. Discuss the role played by each one of them in the forex market. [15 marks] (b) Assume you are a currency trader and have an initial SF 12,000,000 to trade. You can buy or sell currencies at the rates stated below: Mt. Fuji Bank ¥ 92.00/$ Mt. Rushmore Bank SF 1.02/$ Mt. Blanc Bank ¥ 90.00/SF Can you make a profit via triangular arbitrage? If so, show the steps and calculate the amount of profit in Swiss francs. [10 marks]

Answer 1

Ans A)

Major Forex Exchange Participants and Role :

01. Banks and financial institutions : Major Commercial Banks working Through SWIFT Code for Global foreign exchange transaction. It also enable liquidity and Market making of for any foreign exchange market.

02. Merchants or FX Brokers : Faciliating trade between buyers and Sellers. Monitoring FX Rate world wide and also gaining through arbitrage opportunity.

03. Central Banks : One of the Major participant in FX Market. Central Bank always try to regulate its Currency price by maintainng FX reserves. So they does it by buying selling heavily of FX currency / own currency to control its price.

04. Multinational Corporates : To Hedge / transact for their FX Spending MNCs participate heavily in this market.

05. Other Retail Traders/ Speculators : To gain from fluctuation in FX Rates some retail traders speculate in FX Market.

Ans B )

Financial Institution	Currency Quotation
Mt. Fuji Bank	¥ 92.00/$
Mt. Rushmore Bank	SF 1.02/$
Mt. Blanc Bank	¥ 90.00/SF

Checking for Arbitrage Opportunity Exist or Not :

1. Here First we will calculate ¥ /SF cross rate : = ( ¥ / $ Rate) / ( SF / $ Rate)

= ¥ 92.00/$ / SF 1.02/$   = ¥ 90.196 /SF

2. If The Cross Rate is Same With Thord Bank  ¥ /SF cross rate There will be No Arbitrage Opportunity. Now Here Cross Rate Quoted By Mt. Blanc Bank for  ¥ /SF is = ¥ 90.00/SF

3. There is difference between the Cross Rate calculated in Step 01  ¥ 90.196 /SF And Cross Rate Actually Quoted by Mt. Blanc Bank ¥ 90.00/SF.

So Arbitrage Opportunity Exist via triangular arbitrage (Ans)

steps in triangular arbitrage and the amount of profit in Swiss francs

Step 01 :  First He Cover SF Amount into $ from Mt. Rushmore Bank

Amount You will Get = SF Amount   / ( SF / $ Rate )  = SF 12,000,000   /  SF 1.02/$  = $ 1176,470.59

Step 02: Now we Will convert these Dollar into Yen from  Mt. Fuji Bank

Amount You will Get = $ Amount *   ( ¥ / $ Rate) =  $ 1176,470.59 * ¥ 92.00/$ = ¥ 108,235,294

Step 03: Now Convert these Yen Proceeds again to SF from Mt. Blanc Bank

Amount You will Get = ¥ Amount / ( ¥ / SF Rate) = ¥ 108,235,294 /  ¥ 90.00/SF = SF 1202,614.38

Step 04: Profit :Current SF Amount - Initial SF Amount = SF 1202,614.38 -  SF 12,000,000 =SF 2614.38

profit in Swiss francs = SF 2614.38 (Ans)