While traditional stock exchanges have a clearinghouse to ensure that issues are handled, the foreign exchange market is unregulated, free, and private. No institutional entity intervenes to ensure that the parties comply with their obligations. Instead, a private contract closes each transaction.
As a fundamentally unorganized market, wholesale FX (Wholesale Foreign Exchange) maintains a large number of operations centres worldwide. Tokyo, Singapore, Sydney, Hong Kong, Bahrain, London, Frankfurt, Zurich, New York, Chicago, and Toronto are among the most important cities.
In the vast number of currencies that are traded, there are many central banks and private individuals involved. One of the most prominent is the U.S. dollar, the currency in which the world’s central banks hold more than 60% of their reserves. Following the dollar is the euro, the currency in which 24% of all international reserves are held. The British pound accounts for 5.6% of transactions and the Japanese yen for 5.4%.
What’s the Price of a Currency?
Prices of stocks and commodities are expressed in monetary terms often in the local currency or U.S. dollars. In addition, foreign exchange is money in its own right, thus one has to express the price of a unit of one currency in terms of a unit of the Base currency.
Wholesale FX Vs. the Banknote Market
The currency market can be distinguished from the banknote market as follows:
- Wholesale FX: The market for trades between financial institutions or between financial institutions and companies or institutions.
- Banknote Market: Currency exchange that takes place in banks or exchange houses to help travellers who are visiting a country whose currency is different from their own (domestic currency is exchanged for foreign currency).
Following are the principal functions of wholesale FX:
- Sets the relative prices concerning other currencies (currency pairs). A unit of one currency must be exchanged for a unit of another, thereby defining the number of units.
- To assure the value of investments in another currency is covered against currency risk.
- To facilitate the exchange of funds and identify countries with excess liquidity and others that need it.
- To finance international trade, whose transactions account for a large share of the currency market.
A wide spectrum of currencies is traded in the currency market. Over 90% of all foreign exchange transactions take place on the wholesale foreign exchange market.
A currency is identified by a three-letter code (ISO 4217) while a currency pair is identified by a six-letter code. Among its most notable features is the large scale of its transactions. Wholesale foreign exchange trading is mainly characterized by integer wholesale trading, which is limited by the minimum transaction amount. The transaction volume is huge, therefore the transaction cost is low and the bid-ask spread is relatively narrow.