What Is Forex: Foreign Exchange, Exchange Rates, and Rate Quotation

What is Forex? What is exchange rate? What are the differences and similarities between the direct pricing method and the indirect pricing method of exchange rate?

Definition of Forex

Forex refers to foreign currencies or means of payment expressed in foreign currencies that can be used for international settlement. Article 3 of the "Regulations on Forex Administration" promulgated by our country in 1996 stipulates the specific content of Forex as follows:

Forex refers to:

①Foreign currency. Including banknotes and coins.

② Foreign currency payment voucher. Including bills, bank payment vouchers, postal savings vouchers, etc.

③ Foreign currency securities. Including government bonds, corporate bonds, stocks, etc.

④Special Drawing Rights, European Monetary Unit.

⑤Other assets denominated in foreign currencies.

exchange rate

Also known as the exchange rate, it refers to the price of one country's currency expressed in the currency of another country, or the price comparison between the two currencies.

In the Forex market, the exchange rate is displayed as a five-digit number, such as:

Euro EUR0.9705

￥JPY119.95

Pound GBP1.5237

Swiss franc CHF1.5003

The smallest unit of change in the exchange rate is one point, that is, a digital change in the last digit, such as:

Euro EUR0.0001

￥JPY0.01

Pound GBP0.0001

Swiss francCHF0.0001

According to international practice, three English letters are usually used to represent the name of a currency. The English after the above Chinese name is the English code of the currency.

Exchange rate price

There are two methods of pricing exchange rates: direct pricing method and indirect pricing method.

(1) Direct pricing method The direct pricing method, also called the payable pricing method, uses certain units (1, 100, 1000, 10000) of foreign currency as the standard to calculate how many units of domestic currency should be paid. It is equivalent to calculating how much local currency is payable to purchase a certain unit of foreign currency, so it is called the price payable method. Most countries in the world, including China, currently adopt the direct pricing method. In the international Forex market, the Japanese yen, Swiss franc, Canadian dollar, etc. are all quoted directly. For example, 119.05 yen is equivalent to 119.05 yen per US dollar.

Under the direct pricing method, if a certain unit of foreign currency is converted into more local currency than in the previous period, it means that the value of the foreign currency has increased or the value of the local currency has fallen, which is called a rise in the Forex rate; conversely, if a smaller amount of local currency can be exchanged for the same amount of foreign currency, it means that the value of the foreign currency has fallen or the value of the local currency has increased, which is called a fall in the Forex rate. That is, the value of the foreign currency is directly proportional to the rise or fall of the exchange rate.

(2) Indirect pricing method The indirect pricing method is also called the receivable pricing method. It uses a certain unit (such as 1 unit) of domestic currency as the standard to calculate the number of units of foreign currency receivable. In the international Forex market, euros, pounds, Australian dollars, etc. all use indirect pricing methods. For example, Euro 0.9705 means one Euro is worth 0.9705 US dollars.

In the indirect pricing method, the amount of domestic currency remains unchanged, and the amount of foreign currency changes with the relative change in the value of domestic currency. If a certain amount of domestic currency can be exchanged for less foreign currency than in the previous period, it means that the value of foreign currency has increased and the value of local currency has decreased, that is, the Forex rate has declined; conversely, if a certain amount of domestic currency can be exchanged for more foreign currency than in the previous period, it means that the value of foreign currency has decreased and the value of local currency has increased, that is, the Forex rate has increased, that is, the value of foreign currency is inversely proportional to the rise or fall of the exchange rate.

The quotations in the Forex market are generally two-way quotations, that is, the quotation party quotes its own buying price and selling price at the same time, and the customer decides the buying and selling direction. The smaller the spread between the buying and selling prices, the smaller the cost for investors. The normal quotation spread for inter-bank transactions is 2-3 points. The quotation spreads quoted by banks (or dealers) to customers vary greatly depending on the situation of each company. At present, the quotation spreads for foreign margin transactions are basically 3-5 points, in Hong Kong it is 6-8 points, and for domestic bank real-time transactions, it ranges from 10-40 points.

Forex mainly refers to foreign currency, that is, foreign money, but in addition to foreign money, Forex actually also includes foreign bank bills, foreign stocks, etc. The exchange rate is the comparison between the national currencies of two countries. Simply put, the direct pricing method is the value at which a certain amount of foreign currency (such as 1 US dollar) can be exchanged for domestic currency; the indirect pricing method is the value at which a certain amount of domestic currency (such as 1 yuan) can be exchanged for foreign currency.