Cross Exchange Rate Discrepancies
Triangular arbitrage opportunities may only exist when a bank's quoted exchange rate is not equal to the market's implicit cross exchange rate. The following equation represents the calculation of an implicit cross exchange rate, the exchange rate one would expect in the market as implied from the ratio of two currencies other than the base currency.
where
- is the implicit cross exchange rate for dollars in terms of currency a
- is the quoted market cross exchange rate for b in terms of currency a
- is the quoted market cross exchange rate for dollars in terms of currency b
- is merely the reciprocal exchange rate for currency b in dollar terms, in which case division is used in the calculation
If the market cross exchange rate quoted by a bank is equal to the implicit cross exchange rate as implied from the exchange rates of other currencies, then a no-arbitrage condition is sustained. However, if an inequality exists between the market cross exchange rate, and the implicit cross exchange rate, then there exists an opportunity for arbitrage profits on the difference between the two exchange rates.
Read more about this topic: Triangular Arbitrage
Famous quotes containing the words cross, exchange and/or rate:
“He saved others; he cannot save himself. He is the King of Israel; let him come down from the cross now, and we will believe in him.”
—Bible: New Testament, Matthew 27:42.
“So long as the law considers all these human beings, with beating hearts and living affections, only as so many things belonging to the master—so long as the failure, or misfortune, or imprudence, or death of the kindest owner, may cause them any day to exchange a life of kind protection and indulgence for one of hopeless misery and toil—so long it is impossible to make anything beautiful or desirable in the best-regulated administration of slavery.”
—Harriet Beecher Stowe (1811–1896)
“If I die prematurely at any rate I shall be saved from being bored to death at my own success.”
—Samuel Butler (1835–1902)