Foreign Currency Exchange Banking Explained

by Carl Wolf ; Updated July 27, 2017
 Foreign Currency Exchange Banking Explained

Foreign currency exchange banking refers to the exchange of one currency for another currency done on behalf of a bank customer for a fee. The trading department of a bank also earns money from the difference in currency prices that are bought and sold.

Customer Accommodations

If you need to make a payment in a foreign currency or if you are traveling abroad to a country that uses its own resident currency, then make a trip to your local bank in order to exchange your U.S. dollars for the amount of the currency that you need. This is called a foreign currency transaction. When you require foreign currency, you are buying the currency of your choice and selling your U.S. dollars in exchange.

Exchange Rates

Whenever your bank receives a request for foreign exchange, a foreign exchange conversion transaction must take place. For example, if you are traveling to Italy, exchange your U.S. dollars for euros. In this case, your bank will buy your dollars and sell you the amount of euros required at the exchange rate offered by the bank. Let us suppose that you need 5,000 euros and the exchange rate between the two currencies is .90 euros to the dollar. In this case, you give your bank $5,555.55 in exchange for euros (5,000 euros divided by .90 = $5,555.55). The bank charges a fee for its services and also makes a profit from the difference in the buy and sell exchange rate.

Foreign Trade

Foreign currency exchange banking is very important to foreign trade transactions. The payment for the purchase or sale of goods and services must be transacted in the functional home currency of the countries involved. Many large transactions require the creation of foreign currency loans that must be guaranteed and hedged in order to prevent losses from the movement of exchange rates. These types of transactions usually involve very large multinational banks and central banks.

Investments

Many multinational large banks offer foreign investment advisory services including mergers and acquisitions for their corporate and high end customers. The realm of investments ranges from foreign securities and vacation properties to the purchase of foreign companies and the merger of various offshore enterprises. This is a very profitable part of foreign currency exchange banking that requires great skill and access to large amounts of foreign currencies.

Foreign Exchange Dealer

The foreign currency exchange market is decentralized and is based upon foreign exchange dealers located throughout the world. Prices are determined by local conditions and competition. Many banks maintain a foreign exchange dealer operation, which can be very profitable because dealers make their money based upon the difference in price at which they acquire and sell the foreign exchange.

About the Author

Currently residing in Coral Gables, Florida, Carl Wolf has been a banker and financial services professional for the past 41 years. He began to publish online articles about his profession in 2009. Wolf holds an associate degree from Los Angeles City College and a certificate in international banking.

Photo Credits

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