This lesson introduces the structure and operation of the foreign exchange (FX) market, a core area of treasury activity.

7.1 The Foreign Exchange Market
The FX market is the largest and most liquid financial market in the world, operating 24 hours a day across global financial centres . It is a decentralised, over-the-counter (OTC) market. The main participants include banks (market makers), corporations (market takers), central banks, and brokers . It is vital that treasury can handle the currencies that financial markets dictate or that their commercial counterparties prefer, to remain competitive .

7.2 Spot and Forward Dealing
Treasury uses two main types of FX transactions :

  • Spot: An agreement to buy or sell a currency for delivery and payment in two business days (the standard settlement date). The spot rate is the current market rate.

  • Forward: An agreement to buy or sell a currency at a predetermined rate on a future date. Forwards are used to lock in an exchange rate and hedge against future FX movements. There is a direct relationship between spot and forward rates, driven by interest rate differentials .

7.3 FX Market Conventions
Treasury professionals must understand the conventions of the FX market, including:

  • Quoting Conventions: How currencies are quoted (e.g., EUR/USD), and understanding bid-ask spreads.

  • Cross Rates: Calculating the exchange rate between two currencies that are not actively traded against each other by using a common third currency (often the USD).

  • Value Dates: The settlement date for a transaction.

  • Dealing Methods: Transacting via phone, web-based portals, or direct banking systems, and the need for established credit lines .

7.4 Drivers of Exchange Rate Movements
Exchange rates are influenced by a complex interplay of factors, including:

  • Interest Rate Differentials: Currencies with higher interest rates tend to attract investment and appreciate.

  • Economic Indicators: Data such as inflation, GDP growth, and employment figures.

  • Political and Geopolitical Events: Stability and policy decisions.

  • Central Bank Actions: Monetary policy decisions and intervention in the FX market .

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