From: Chris Tham Subj: Currency Two-way Pricing Date: 25 Nov 91 HP-48SX Foreign Currency Bid/Offer Pricing/Conversions Copyright (C) 1991 Chris Tham Introduction ------------ The HP-48SX FX Application performs bid/offer quotations, pricing, and cross currency rate calculations for use by professional Foreign Exchange market makers. It allows the user to define a set of currencies and set two-way prices (quotes) for each currency against the reference currency (the US Dollar denoted by the three character code `USD'). Both direct and indirect methods of quoting currencies are supported by the application. Each currency can then be priced on both the bid and offer sides against any other currency defined and the application will automatically perform the necessary cross rate calculation, taking the appropriate side of the two-way quotes. Background ---------- Foreign Exchange currency conversions/pricing are different from scientific unit conversions normally performed by the HP-48SX Units Application because there are two, instead of one, conversion factors associated with each currency. In the foreign exchange market, dealers buy and sell one currency in exchange for another currency. Basically, the price or value of money in one country is traded against money in another country. A foreign exchange transaction always involve two currencies, one of which can be considered the currency bought or sold (the `base' or `commodity' currency) and the other currency can be considered the measure of value for effecting the transaction (the `terms' currency). All transactions require two counterparties, each of which will both buy and sell currency. The exchange rate is the price at which one currency can be exchange for another. Currency names are abbreviated using standard codes developed for computer input (the United States Dollar is designated by `USD', the Australian Dollar `AUD', the Japanese Yen `JPY', the German Deutschmark `DEM', the Great Britain Pound Sterling `GBP' and so on). For example, one counterparty may purchase 1 million AUD (value is Australian Dollars $1,000,000) against the US Dollar at an exchange rate of AUD 1 = USD 0.7800 (or, in standard market quotation, AUD/USD 0.7800). This means that the counterparty has to pay (or sell) $780,000 US Dollars for the Australian Dollars bought. The transaction can also be viewed as the counterparty exchanging USD for AUD, paying USD 0.7800 for every AUD 1 received. The other counterparty is performing the reverse action, exchanging AUD for USD, and receiving USD 0.7800 for every AUD 1 sold. The exchange rate between any two currencies is normally quoted as the number of terms currency units required to purchase or sell one base currency unit. The exchange rate is expressed by the commodity currency code, followed by a slash, followed by the terms currency code and then the exchange rate in terms currency units. In the above example, the exchange rate is quoted with AUD being the base currency and USD being the terms currency, hence AUD/USD 0.7800. In foreign exchange trading, the commodity currency is usually the focus of trading and dealers buy and sell multiples of the commodity currency. Instead of quoting each currency against every other currency, all currencies are normally quoted against the US Dollar. The exchange rate between any two currency can then be determined by referencing against the exchange rate for each currency against the US Dollar. Most currencies are quoted against the US Dollar with the US Dollar as the base (or commodity) currency. This is also called direct quotation. Some currencies, however, notably those belonging to the so called `Commonwealth' countries including Great Britain and Australia, are quoted with the US Dollar as the terms currency. This method of quoting is referred to as indirect quoting. An example of a direct quotation is USD/DEM 1.8200 (note USD is the base currency and appears on the left hand side of the slash). An example of an indirect quotation is GBP/USD 1.6293 (USD is now the terms currency and appears on the right hand side of the slash). There is no `standard' or `reference' exchange rate for any country against the US Dollar (except when countries fix currency exchange rates with respect to other currencies). Instead, each dealer is free to set the exchange rate for the currency that the dealer is prepared to trade. By convention, dealers set two exchange rates, a rate in which they are prepared to buy the commodity currency (the bid rate) and a rate in which they are prepared to sell the commodity currency (the offer rate). This is called two-way pricing or quotation. By convention, the bid rate is quoted before the offer rate. Hence, a typical two-way quote for AUD would be AUD/USD 0.7800/05. This means that the bid rate for AUD/USD is 0.7800 and the offer rate is 0.7805, i.e. the dealer is prepared to buy AUD for USD 0.7800 and sell AUD for USD 0.7805. The difference between the offer and bid quotes, i.e. USD 0.0005 or 5 `points', is called the `spread' and represents the dealer's profit from buying and selling the commodity currency. How to use the FX application ----------------------------- The FX application is normally stored in a subdirectory on the HP-48SX called `FX'. To use the application, simply enter the directory and either type the `GO' command or press the [VAR] menu key and then press the soft key marked [GO] (this should be the left most soft key if you have not created any variables in this directory). The screen' soft menu labels should now change to something like the following [MKC] [RMC] [USD] [AUD] [DEM] The soft keys [MKC] and [RMC] are used to define and undefine a new currency unit. The remaining soft key labels denote currency codes. WHen you first install the application, the application comes preconfigured with three currencies, USD, AUD and DEM. You are allowed to create or delete any currencies that you wish, including the predefined AUD and DEM currencies. However, USD is a special currency that cannot be created or deleted at will due to its special status as the currency against which all other currencies are valued against. Let's use the predefined currencies first. Later, we will try creating and deleting currencies and see the effect on the soft menu. Suppose you are a market maker dealing in both AUD and DEM and you are currently quoting AUD/USD 0.7790/95 USD/DEM 1.8155/60 Your bids and offers may be entered into the application by typing in a complex number with the real part equal to the bid rate and the imaginary part equal to the offer rate, then pressing [Right Shift] followed by the currency soft menu key. In this instance, you will type in [Left SHift] [ () ] 0.7790 [SPC] 0.7795 [ENTER] [Right Shift] [AUD] [Left SHift] [ () ] 1.8155 [SPC] 1.8160 [ENTER] [Right Shift] [DEM] Note that the application `knows' that AUD is normally quoted in indirect terms and DEM is normally quoted in direct terms so you can just enter the quotes into the application and it will figure out which currency is the base currency and which is the terms currency. Now if you buy AUD 15 million how much USD should you be selling? The sign convention is positive if you are buying and negative if you are selling. Type in the following 15 [EEX] 6 [AUD] and level 1 of the stack will now show something like 15000000.0000_bAUD My calculator is currently on FIX 4 mode. Your calculator may show a slightly different format depending on your current numeric display mode. Note that the amount 15,000,000 is suffixed by the string "_bAUD" indicating that the amount is in AUD and you are buying that currency and hence `bidding' for it. To convert that amount to USD, simply press the [Left Shift] [USD] key and level 1 of the stack will change to -11685000.0000_oUSD Hence, to buy AUD 15 million, you need to sell USD 11.685 million. What if you were to sell AUD 15 million? They following keystrokes will reveal the answer: 15 [+/-] [EEX] 6 [AUD] [Left Shift] [USD] The stack should show 11692500.0000_bUSD which means you will receive USD 11.6925 million. Here are some more examples and their answers 1. Buying DEM 6 million (6000000.0000_bDEM), pay -3303964.7577_oUSD {Keystrokes: 6 [EEX] 6 [DEM] [Left Shift] [USD]} 2. Selling AUD 7 million (-7000000.0000_oAUD), receive 9909004.0000_bDEM {Keystrokes: 7 [+/-] [EEX] 6 [AUD] [Left Shift] [DEM]} 3. Buying USD 2 million (2000000.0000_bUSD), pay -2565747.2739_oAUD {Keystrokes: 2 [EEX] 6 [USD] [Left Shift] [AUD]} To create a new currency, you need to know * the three letter currency code * bid/offer rates of that currency against the US dollar * whether the currency is normally quoted in direct or indirect form As an example, suppose you want to create a new currency called GBP (Great Britain Pound Sterling). You will be quoting GBP/USD 1.6930/35 (i.e., indirectly). Enter the following keystrokes: [Right Shift] [" "] [Alpha] [Alpha] G B P [ENTER] [Left Shift] [ () ] 1.6930 [SPC] 1.6935 [ENTER] 0 [ENTER] The stack should show: 3: "GBP" 2: (1.6930,1.6935) 1: 0.0000 Level 3 contains the three character currency code, i.e., GBP, level 2 contains the quoted exchange rate of GBP against USD, level 1 is 0 for an indirect quote (and 1 for a direct quote). Now press the [MKC] (Make Currency) soft key. You should now notice a new softkey labelled [GBP] on the soft menu. You can now perform currency conversions using GBP: How much do you receive in GBP if you sell DEM 44,000? Keystrokes: 44 [+/-] [EEX] 3 [DEM] [Left Shift] [GBP] Answer: 14315.2674_bGBP How do you create a new currency called "SFR" (Swiss Francs) to be quoted as USD/SFR 1.5520/25 (direct quotation)? Keystrokes: [Right Shift] [" "] [Alpha] [Alpha] S F R [ENTER] [Left Shift] [ () ] 1.5520 [SPC] 1.5525 [ENTER] 1 [ENTER] [MKC] To remove a currency, simply create a string containing the currency code of the currency to be removed, then press the [RMC] (Remove Currency) soft key. For example, to remove the SFR currency just created, press [Right Shift] [" "] [Alpha] [Alpha] S F R [ENTER] [RMC] The soft menu should automatically reflect the removal of the currency. Exiting the FX application -------------------------- Just press any menu key.