% spread = [(ask price - bid price) / ask price] [100]

Example:

The ￡ % spread is: [(1.6635 - 1.6625) / 1.6635] [100] = .06%

The $ % spread is: [(.6015 - .60114) / .6015] [100] = .06%

Hence, the percentage spread will be the same irrespective of how the quote is made. (Note that we needed to be careful and extend the significant digits to 5 when we inverted the $/￡ quote.)

Please note the following features of spreads:

The more widely the currency is traded (breadth and depth), the narrower the spread.

The forward bid-ask spreads are wider than current spot spreads.

Financial press quotes are for interbank market transactions. Local nonbank quotes will be less favorable - meaning a wider bid-ask spread (lower bid and higher ask).

Bid-ask spreads will also differ based on the individual bank's currency needs.

Quotes are size related. The smaller the transaction, the larger the spread.

e: Calculate currency cross rates, given two spot or forward foreign exchange quotations involving three currencies.

3-currency example: the spot exchange rate between the Swiss franc and the U.S. dollar is 1.7799 SF/$ and the spot exchange rate between the Deutsche mark and the U.S. dollar is 2.2529 DM/$.

What is the Swiss franc/deutsche mark spot cross exchange rate? First you need to know what country you are in. The direct method of quoting currencies is domestic/foreign or (DC/FC).

In Switzerland, the direct exchange rate is: (1.7799 SF/$) / (2.2529 DM/$) = 0.79005 SF/DM.

In Germany, the direct exchange rate is: (2.2529 DM/$) / (1.7799 SF/$) = 1.26575 DM/SF.

f: Calculate the profit or loss on a triangular arbitrage opportunity, given three currency quotations.

Currency arbitrage involves buying a currency in one market while simultaneously selling it at a higher price in a second market. Arbitrage will continue until prices return to their equilibrium state. That is, the value of the sold currency will fall while the value of the purchased currency will rise.

Example: would a profit opportunity exist if:

1.7799 Swiss francs can buy 1 dollar in the U.S., and

1 dollar sells for 2.2529 Deutsche marks in Germany, and

1 Deutsche mark sells for 0.8250 Swiss francs in Switzerland?

To find out, take your dollar and buy 2.2529 DM in Germany. Then go to Switzerland and buy (2.2529 x 0.8250) = SF 1.85864 with your DM 2.2529. Moving on the the U.S., buy (1.85864 / 1.7799) = $1.0442 dollars with your SF 1.85864. You just made a $.0442 profit doing nothing but converting currencies. Hence, arbitrage possibilities exist. This three-step process is called triangular currency arbitrage. It will continue until prices adjust. How? Buying pressure in Germany will cause the DM to appreciate relative tot he dollar. Buying pressure in Switzerland for the SF relative to the DM will cause the DM to fall relative to the SF. Buying pressure in the U.S. will cause the dollar to appreciate relative to the SF.