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Tell bid exchange rates from ask exchange rates, and describe how foreign exchange quotes work for the spot, forward and futures markets.

FRM® Part I · Financial Markets and Products · Foreign Exchange Markets · FRM1.FM.9.a

The idea

A foreign exchange quote gives the price of one currency, the base, in units of another, the quote currency. EUR/USD 1.0840/1.0844 means the dealer buys one euro for USD 1.0840, the bid, and sells one euro for USD 1.0844, the ask. Always read a quote from the dealer's side. A client who buys the base currency pays the ask, and a client who sells it receives the bid. A direct quote is domestic currency per unit of foreign currency, and the indirect quote is its reciprocal. Inverting a two-way quote swaps the sides: the new bid is 1 ÷ old ask, and the new ask is 1 ÷ old bid. Forwards are quoted as spot plus forward points, with separate bid and ask points. Futures trade on an exchange, at one quoted price for contracts of standard size and delivery date. The usual mistake is using the bid when the client is buying, or inverting without swapping the sides.

Formulas

Bid of an inverted currency quote

inverted bid = 1 ÷ old ask

old ask
the ask of the quote before inversion

Inverting swaps the sides: the inverted ask is 1 ÷ old bid. Taking the reciprocal of the bid as the new bid is the usual mistake.

A practice question

From the question bank, with the reason each wrong option is wrong.

A dealer quotes EUR/USD spot at 1.0840/1.0844, meaning USD per 1 EUR. A corporate client wants to buy EUR 3 million against USD. At which rate does the client transact?

  1. 1.0844, the dealer's ask for euros - correct
  2. 1.0840, the dealer's bid for eurosWhy not: The bid is the rate at which the dealer buys euros; a client buying euros deals at the dealer's selling rate, the ask.
  3. 1.0842, the mid-market rateWhy not: The mid rate is a reference level, not a rate at which a client can deal; the client pays the ask.
  4. 0.9222, the reciprocal of the askWhy not: Inverts the quote to EUR per USD, which is not the price of euros in USD that the quote gives.

The dealer buys the base currency (EUR) at the bid and sells it at the ask. A client buying EUR therefore pays the ask of 1.0844 USD per EUR.

A harder one

A bank quotes USD/CHF spot at 0.8800/0.8806, meaning CHF per 1 USD. A US importer needs to buy CHF with USD. Which USD-per-CHF rate will the importer deal at, closest to?

  1. 1.1356Why not: Inverts the bid instead of the ask. The importer sells USD at the bank's USD bid (0.8800), so the CHF price is 1/0.8800, not 1/0.8806.
  2. 0.8806Why not: Uses the ask of the original quote without inverting; that is CHF per USD, not USD per CHF.
  3. 1.1364 - correct
  4. 0.8800Why not: Uses the original bid without inverting; the question asks for USD per CHF.

The importer sells USD to the bank at the bank's USD bid, 0.8800 CHF per USD. In USD per CHF terms that is 1/0.8800 = 1.1364, which is the bank's ask for CHF. Inverting a quote swaps bid and ask.

The hardest tier

A dealer quotes EUR/USD 1.0840/1.0844 (USD per EUR) and USD/JPY 148.20/148.26 (JPY per USD). A client wants to sell EUR 2 million for JPY. Which EUR/JPY rate (JPY per EUR) will the dealer's cross rate give the client, closest to?

  1. 160.65 - correct
  2. 160.77Why not: Uses the ask on both legs, which is the rate at which the dealer sells euros for yen, not buys them.
  3. 160.71Why not: Mixes the EUR/USD bid with the USD/JPY ask, so the two legs are not on the same side of the dealer's market.
  4. 136.72Why not: Divides USD/JPY by EUR/USD instead of multiplying them, which gives a number with the wrong units.

The dealer buys EUR (bid 1.0840 USD per EUR) and then sells those USD for JPY at the USD/JPY bid, 148.20. The cross bid is 1.0840 x 148.20 = 160.65 JPY per EUR; the cross ask uses both asks.

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