A Global Dynamic
There are more than 200 countries in the world, and most have their own currencies.
A country's legal tender—currency—is its official medium of exchange for goods and
services, as well as the preferred medium of payment.
Exchanging the currency of one country for that of another is called foreign exchange.
While there is nothing mysterious about that process, the ever-changing value of
one currency against another can have important implications for international business
and the traveler.
Foreign Currencies
Although there are nearly as many currencies in the world as there are countries,
only six such currencies are considered to be major, because they all have a ready
market and are traded competitively on major exchanges. These currencies are the
U.S. dollar, the Canadian dollar, the British pound, the Swiss franc, the Japanese
yen, and the euro.
Yet another group of currencies is considered to be minor. The foreign exchange
market arbitrarily assigns the currencies of countries to this group. Although the
number of minor currencies fluctuates, they variably include the Swedish kronor,
the Danish kroner, and the Australian dollar.
These minor currencies generally are in less demand in the spot and forward markets,
have more volatility in value as compared to the major currencies, have an increased
likelihood of artificial controls on their exchange rate, and tend to follow a major
currency in value fluctuation, often because of close economic ties to the country.
The remaining currencies of the world are referred to as exotics. Most exotics are
the currencies of small countries or those which impose controls on currency conversion.
Foreign Exchange Trading
The business of trading one currency for another is similar to the trading of any
other commodity, but its volume is far greater and its transactions, on the average,
are smaller. For example, an American traveling abroad trades in this market when
he exchanges his US dollars for euros at a bureau de change. The American importer
who is invoiced in British pounds trades in this market when he buys a foreign currency
draft or wire. The cash manager who has a position—that is, he either owns or owes
a foreign currency—trades in this market when he hedges his exposure by purchasing
or selling forward.
Foreign Exchange Rates
At base, foreign exchange rates indicate comparative value. Any currency's given
numerical value is simply an expression of that currency's value against that of
another. In the United States, exchange rates are typically expressed as a foreign
currency's value against the dollar. For example, at a given point in time, one
US dollar will buy 118.15 Japanese yen, which is expressed as 118.15 yen/dollar.
Therefore, determining the exchange value of yen in terms of US dollars involves
dividing a known amount of yen by the exchange rate of 118.15. Conversely, determining
the exchange value of US dollars in terms of yen involves multiplying a known amount
of US dollars by 118.15.
The exchange rate of some currencies, known as direct currencies, is expressed as
a percentage of the US dollar. These currencies—which can be from either the major
or minor categories mentioned earlier—include the British pound, the New Zealand
dollar, the Australian dollar, and the euro. For example, if the British pound is
valued at, say, 2.020, it means that you can purchase one British pound for US $2.02.
The opening and closing exchange rates you see quoted in the Wall Street Journal
or on CNN are the rates applicable to large interbank transactions. Smaller everyday
transactions use quoted exchange rates based on that market, but they reflect additional
costs of delivery. Dealing in foreign currency involves several elements of transaction
that affect the price, including the amount, the form of delivery, and whether the
transaction occurs in the spot or forward market.
Exchange Rate
Every foreign currency exchange rate is quoted as bid/ask and spot/forward. The
bid/ask quote is like any other commodity or stock trade quote; the customer either
wants to buy or sell.
In contrast, spot/forward rates reference the currency's availability and delivery.
A spot transaction literally means that the rate is quoted on the spot in the market;
however, delivery actually occurs two days later, which makes an allowance for the
time difference that may exist between markets. Spot rates occurring in the same
time zone usually reflect next-day value and delivery.
Forward rate quotes are those which are offered now for fixed future transactions.
These rates are calculated by taking the spot rate and factoring in the interest
rate differential between the two countries whose currencies are being exchanged.
When trading a currency from a country whose interest rates are higher, the forward
market, under normal circumstances, is said to be at a discount. In the reverse
of this situation, the forward market is said to be a premium. Other considerations,
such as market volatility and inflation, can also affect the spread.
Transaction Methods
Several methods of foreign currency transactions are available:
- Cash or banknote transaction. You should be aware that cash transactions
receive the least favorable exchange rates of any foreign exchange transaction.
There are several reasons for this: the costs of maintaining a foreign exchange
window are considerable because the operator must absorb losses from devaluation,
the expense of physically moving the currency from market to market, and the costs
of maintaining an inventory of money that cannot be invested. Currency kept in inventory
simply sits in a cash drawer until it is sold; it earns no interest. And finally,
the average cash transaction is so small that there is little opportunity to recover
costs through volume. For these reasons, foreign currency transactions involving
cash often incur a fee. INTRUST, however, does not charge a transaction fee unless
the currency is not one of the eleven currencies we keep on hand, thereby necessitating
a special order.
- Check transaction. A check denominated in a foreign currency attracts a better
exchange rate than does a cash transaction for several reasons: because the amount
is generally larger, the check can be cleared on a cash letter (bank deposit) basis
rather than having to be sold through a broker, and since it receives ledger credit,
this form of currency can be invested. However, the clearing process for a check
transaction carries a cost; it can take five to ten days of mail time for a check
to be deposited in a foreign bank account, and the handling of a check is labor-intensive.
- Wire transfer. The best exchange rates are given for any large foreign currency
transaction delivered or received by wire transfer. This form of delivery results
in readily available funds. There are no costs associated with clearing, except
those involving the normal maintenance costs of an account.
Buying Foreign Currency
INTRUST Bank offers a complete range of foreign exchange services. You can purchase
foreign currency by means of:
- Cash. The foreign exchange window at INTRUST Bank sells foreign banknotes
on demand. If the amount you wish is larger than that held in inventory, your order
can be placed for delivery by the next business day.
- Foreign currency traveler's check. Traveler's checks denominated in five
different foreign currencies are available at INTRUST Bank and you may order them
for delivery at a branch.
- Foreign draft. The foreign draft is comparable to a cashier's check. You
may purchase a draft drawn in a foreign currency on a foreign bank at INTRUST Bank.
You must make the draft payable to a designated party and indicate the remitter's
name.
- Foreign currency wire transfer. This is the most expedient and safest method
of transferring funds outside the country. You may apply for a wire transfer at
any INTRUST Bank location.
Selling Foreign Currency
You can sell foreign currency to INTRUST Bank in any of several ways:
- Cash. You can sell foreign currency in the form of banknotes at any INTRUST
Bank location. Some banknotes are accepted only on a collection basis — for
example, exotics — and all banknotes are subject to the reporting requirements
for cash transactions set by the Federal Reserve.
- Check. You may deposit a check drawn on a foreign source for provisional
credit. The prevailing spot rate on the date of the deposit determines the US dollar
value of the check. You may also submit a check for collection. If you do so, the
US dollar equivalency will be determined by the spot rate prevailing on the date
on which the check is actually paid.
- Wire transfer. An incoming wire transfer denominated in a foreign currency
and not previously sold to INTRUST Bank under the terms of a forward contract are
purchased at the spot rate prevailing on the value date. Instructions for directing
this form of remittance vary from currency to currency.
If you would like additional information about Foreign Exchange, contact the International
Banking Department.