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Triangular (3-Point) Exchange Arbitrage

Triangular (3-Point) Exchange Arbitrage. Exchange arbitrage is the activity that unifies the foreign exchange market spatially. That is, it assures that the same exchange rates tend to rule at any moment in time, whether they are quoted by a London bank, a New York bank , or a Singapore bank.

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Triangular (3-Point) Exchange Arbitrage

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  1. Triangular (3-Point) Exchange Arbitrage Exchange arbitrage is the activity that unifies the foreign exchange market spatially. That is, it assures that the same exchange rates tend to rule at any moment in time, whether they are quoted by a London bank, a New York bank , or a Singapore bank.

  2. Example

  3. Equilibrium Conditions • $/DM = $/FF * FF/DM • $/FF = $/DM * DM/FF • FF/DM = FF/$ * $/DM • FF/$ = FF/DM * DM/$ • DM/$ = DM/FF * FF/$ • DM/FF = DM/$ * $/FF

  4. Example

  5. Tests for Cross Rate Alignment • $ / SF = $ / £ * £ / SF 0.20 < 1.80 * 0.125 • $ / £ = $ / SF * SF / £ 1.80 > 0.20 * 8.00 • SF / £ = SF / $ * $ / £ 8.00 < 5.00 * 1.80

  6. Solution • $ -------- £ -------- SF -------- $ $ 1M / 1.80 = £ 555,555.56 £ 555,555.56 * 8.00 = SF 4,444,444.44 SF 4,444,444.44 * 0.20 = $ 888,888.88 Loss = $ 111,111.11

  7. Solution • $ -------- SF -------- £ -------- $ $ 1M / 0.20 = SF 5,000,000 SF 5,000,000 / 8.00 = £ 625,000 £ 625,000 * 1.80 = $ 1,125,000 Profit = $125,000

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