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Globalization and integration of the financial markets, coupled with the
progressive increase of the cross border flow of the capital, have transformed
the dynamics of the Indian Financial markets. This has increased the need for
dynamic currency risk management. The steady rise in the India’s foreign trade
along with liberalization in foreign exchange regime has led to a large inflow
of foreign currency into the system in the form of FDI and FII’s Investments.
The foreign exchange (currency or FX) market is where currency trading takes
place. FX transactions typically involve one party purchasing a quantity of one
currency in exchange for paying a quantity of another. The Foreign Exchange
Market that we see today started evolving during the 1970s when world over
countries gradually switched to floating exchange rate from their erstwhile
exchange rate regime, which remained fixed as per the Bretton Woods system till
1971.
Today FX market is one of the largest and most liquid financial markets in the
world, and includes trading between large banks, central banks, currency
speculators, corporations, governments, and other institutions. The average
daily volume in the global forex and related markets is continuously growing.
Traditional daily turnover was reported to be over US$ 3.2 trillion in April
2007 by the Bank for International Settlements.
Since then, the market has continued to grow. According to Euromoney's annual
FX Poll, volumes grew a further 41% between 2007 and 2008.
The purpose of FX market is to facilitate trade and investment. The need for a
foreign exchange market arises because of the presence of multifarious
international currencies such as US Dollar, Pound Sterling, etc, and the need
for trading in such currencies.
Market Size and Liquidity
The foreign exchange market is unique because of:
1. Its trading volumes
2. The extreme liquidity of the market
3. The large number of, and variety of, traders in the market
4. Its geographical dispersion
5. The variety of factors that affect exchange rates
6. The low margins of profit compared with other markets of fixed income (but
profits can be high due to very large trading volumes)
7. The use of leverage
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