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Exchange Arbitrage

Exchange Arbitrage. Exchange arbitrage, the process of buying and selling currencies to make a profit, ensures that rates in different locations are essentially the same, and rates and cross-rates are related and consistent among themselves. Interest Arbitrage.

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Exchange Arbitrage

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  1. Exchange Arbitrage Exchange arbitrage, the process of buying and selling currencies to make a profit, ensures that rates in different locations are essentially the same, and rates and cross-rates are related and consistent among themselves.

  2. Interest Arbitrage The process by which individuals seek to make a profit by taking advantage of differences in short-term interest rates available on comparable assets denominated in different currencies at a given point in time.

  3. Forward Foreign Exchange Contract A forward foreign exchange contract is an agreement to exchange one currency for another on some date in the future at a price set now (forward exchange rate).

  4. Forward Exchange Value ( fxv) Vs. Spot Exchange Value (sxv) • If fxv > sxv: Forward Premium; • If fxv < sxv: Forward Discount; • If fxv = sxv: Flat (even)

  5. In the following examples, is the dollar selling at a premium or discount? • eS : $/£ = 1.77 eF : $/£ = 1.78 • $/¥ = 0.004 $/¥ = 0.005 • $/DM = 0.40 DM/$ = 2.50 • FF/$ = 6.06 $/FF = 0.15 • $/SF = 0.51 SF/$ = 1.94

  6. Interest Arbitrage The process by which individuals seek to make a profit by taking advantage of differences in short-term interest rates available on comparable assets denominated in different currencies at a given point in time.

  7. Covered Interest Parity Condition The forward exchange value of a currency tends to exceed its spot value by the same percentage as its interest rates are lower than foreign interest rates. ( iU.S.- iU.K.) = ( eF - eS) / eS

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