Exchange rates are important for travelers and international investors. It’s easy to find current exchange rate quotes nowadays, but you still need to know how to read them and calculate based on them. In this article, we’ll take a closer look at exchange rates.
Finding and Reading Exchange Rates
You can find exchange rates in many different places, from banks to websites like XE.com. If you’re traveling, you can often find posted rates at airports or local banks. If you’re trading in the forex market, check your trading platform for real-time information.
Quotes are always given in pairs because the values of currencies always depend on each other. It’s no surprise that the U.S. dollar and the euro are the most quoted currencies, given their status as reserve currencies in many global central banks. The most famous currency pair is thus EUR/USD, which is the number of dollars needed to purchase one euro.
These currency pairs fluctuate all the time due to various economic factors, including supply and demand, various economic indicators, trading activity, hedging, and investment funds or financial trading. The changes are a small fraction of the currency’s value and are referred to as “pips” among currency traders.
It’s worth noting that many currency exchange services at airports make profits from the spread between currencies. They do not charge direct fees but profit by inflating the differences in exchange rates. Often, you can get a better deal by exchanging currency through your local or foreign bank.
How to Calculate Exchange Rates
Calculating exchange rates may seem simple on the surface, but it can be confusing if you don’t remember much math from school. It’s easy enough to convert 100 dollars into foreign currency while traveling, but converting currencies when analyzing financial data for a foreign stock can mean significant differences when trying to make investment decisions.
Let’s take a look at an example of how to calculate exchange rates.
Suppose the exchange rate for EUR/USD is 1.20, and you want to convert 100 U.S. dollars to euros. Simply divide 100 dollars by 1.20. The result is the number of euros: 83.33. Converting euros to U.S. dollars means reversing this process: multiplying the number of euros by 1.20 to get the number of U.S. dollars.
A simple way to remember this is to multiply numbers from left to right and divide from right to left. The final currency is the desired result of the calculation. In the above example, we divided from right to left to determine how many euros we could buy with U.S. dollars. Then, we multiplied it from left to right to find out how many U.S. dollars we would receive from euros.
If you’re traveling, you might only want to get a rough idea of the value of your money, but forex traders who rely heavily on leverage pay attention to every pip. A tiny currency fluctuation matters a lot for the international investor determining the impact of a difference of $0.0001 on a billion dollars of revenue.
Below, you can see the exchange rate of the euro against the dollar from 1999 to the present.
Useful Tools
Reading and calculating exchange rates isn’t too difficult, but small mistakes can lead to big errors in some cases. Whether you’re an international investor or a traveler, you can use free tools to help reduce the likelihood of mistakes. Double-check your work before making a costly mistake that is hard to undo.
In…
Here are some useful tools:
- XE.com: The main source of currency information that includes a converter for exchange rates for many major currencies around the world.
- Yahoo Finance: The leading portal for financial news and analysis that also features an exchange rate calculator for many major currencies.
There are also many apps in the Google Play Store and Apple App Store that can help in determining exchange rates instantly. Again, it is important to note that these rates may differ from the exchange rates at many airports and banks which may impose spreads.
Conclusion
It is easy enough to find exchange rate quotes, but performing calculations based on them can be a bit more challenging. Investors can use various online resources to help them calculate exchange rates instantly. They can also learn the basic math necessary to compute exchange rates. This can save a lot of time and money, especially when dealing with large sums of money.
Frequently Asked Questions
How are exchange rates determined?
Exchange rates in the forex market are largely determined by free market forces, but the actions of central banks and governments can influence those forces. When investors increase their demand for a particular currency, the exchange rates for that currency will rise. Demand can increase or decrease for various reasons, including the strength of the country’s economy and central bank policy.
How does inflation affect exchange rates?
When a country faces inflation, the value of its currency decreases. All else being equal, an inflating currency will lose value in foreign currency pairs.
How are forward exchange rates calculated?
Forward exchange rates are contractual agreements to exchange currencies at a specified rate on a future date. They are often used by businesses that make large sales overseas and want to hedge against currency fluctuations. Banks typically set the terms of forward exchange rates based on the current market rate plus the cost of carry. The cost of carry is the market rate (the interest rate differential between the two currencies) multiplied by the length of the forward contract.
Was this information helpful?
Thank you for your feedback! Let us know why! Other
Sources:
- Forex.com. “Forex Trading.”
- Bank for International Settlements. “Triennial Central Bank Survey,” Page 3.
- OANDA. “Price Interest Point (PIP).”
- Google Books. “Trading and Exchanges: Market Microstructure for Practitioners,” Page 59.
- U.S. Securities and Exchange Commission. “International Investing.”
Source: https://www.thebalancemoney.com/how-to-read-and-calculate-exchange-rates-1978919
Leave a Reply