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As an expat (or would-be expat) you’ve probably had some experience with currency transfers and exchange rates.
But do you understand what makes exchange rates move, and how fluctuations can have an impact on how much your currency transfer is worth?
Understanding more about currency markets could help you save time and money on your currency transfers, leaving you with more to spend on living your life overseas to the full.
Here’s a a little guide to help you get to grips with all the ins and outs of exchange rates… enjoy!
Exchange Rates – Timing is Everything
Exchange rates tell you the market value of one currency against another currency, which is expressed as a ratio.
For example, if you had Pounds but wanted to purchase Euros you’d be interested in the Pound to Euro exchange rate. If the Pound to Euro exchange rate was 1.11 it would mean that one Pound was worth 1.11 euros.
The two currencies in an exchange rate are known as a currency pair.
A three-letter ISO code is assigned to each currency. So the Pound becomes GBP and Euro becomes EUR, with the pairing being expressed as GBP/EUR.
Exchange rates fluctuate constantly due to a vast number of factors, not all of them necessarily economic. These factors can include political stability, social issues, and even the weather.
While exchange rates can move in trends (rising or falling over time due to a number of outside influences) they can also experience very sudden swings, with some moving by as much as 5% in a couple of weeks.
If you make a currency transfer when the exchange rate has moved in your favour you will get more for your money than if you’d made the transfer when the exchange rate was weaker.
So, for example, the GBP/EUR exchange rate was trading at €1.15 in April 2018, but had fallen to €1.10 by August.
On a £100,000 transfer you would have been €5000 Euro better off if you’d made the transfer at the higher exchange rate.
You may be familiar with the Federal Reserve/Fed (US), Bank of England/BoE (UK), the European Central Bank/ECB (Eurozone) and Reserve Bank of Australia/RBA (Australia) – these are all examples of national banks that commercial banks borrow from, otherwise known as central banks.
Central banks set interest rates and fiscal policy for a nation, and are the sole manufacturer of notes and coins that are in circulation.
Policy decisions made by central banks can have a huge impact upon currency markets.
Bulls, Bears, Hawks and Doves
Bulls and hawks are aggressive and active, whereas bears and doves are cautious and passive, therefore, labelling a trader, central banker, or politician as ‘dovish’ would indicate that they are cautious of market conditions getting weaker, or that the situation is more likely to deteriorate – which would then be referred to as a bear market.
If they are ‘hawkish’ it suggests they are talking up the market as they are preparing for or attempting to cause some form of movement. If exchange rates are rising they can be described as being bullish.
Look Out for Signs of an Interest Rate Hike
Interest rates are the cost of borrowing, which is set by the country’s central bank.
Interest rates are essential to foreign exchange traders as they want to put their money into countries where they will earn the most interest, so if a country has signs they are going to raise interest rates, there can be an inflow of money from currency markets.
Inflation is an expression of price rises across an economy, and central banks have a target inflation rate for their country which they try to achieve through monetary policy. It is usually a measure of the rate at which the value of a basket of goods and services in an economy increases over a select period of time, and indicates the purchasing power of a currency.
If inflation is too high (outpaces wage growth) it can damage the economy as the average cost of living will be too high, so central banks will raise interest rates in an attempt to drive inflation lower. If the opposite happens, and inflation is too low, central banks will try stimulating the economy by cutting interest rates.
Fiat Currencies v Gold Standard
‘Fiat’ translates to ‘let it be done’ in Latin, and in the world of currency this means that the value of a currency is held due to the fact that the issuing government claims it has worth. Fiat currencies run the risk of becoming worthless as a result of hyperinflation, and they have had a dramatic impact on foreign exchange markets in the past.
Originally currencies were backed by something of value – such as gold, a system that is known as the Gold Standard. Fiat currency on the other hand cannot be converted, therefore you can’t redeem it for a commodity like you could previously.
Risk-Sensitive Commodity Currencies
Many countries have a lot of natural resources and raw materials sold on international markets. Any change in price for the commodity can have a large effect on the value of the country’s currency.
For example, Australia relies on iron ore, Canada on crude oil and New Zealand on dairy products. If the prices of these commodities rise, the value of the currencies will also rise.
World’s Reserve Currency
A reserve currency is one that can be used all over the world, with the US Dollar currently the world’s reserve currency.
The Dollar has been the reserve currency since 1944 following the Bretton Woods Agreement in which 44 nations agreed to adopt the Dollar as an official reserve currency.
It can be used between countries that do not have a connection to the US, and most commodities (such as oil) are traded and quoted in USD.
Currency Brokers are here to Help
A currency broker buys and sells foreign currency on behalf of a client, and at TorFX has helped over 55,000 customers save time and money on their currency transfers since 2004 by offering bank-beating exchange rates, free transfers and a range of specialist services.
Customers can arrange transfers over the phone with the support of their personal Account Manager, online or with the TorFX app.
If you’re planning on emigrating, buying foreign property, paying international school fees, transferring wages or a pension, covering import/export costs, managing a foreign payroll or paying royalties, we can help.
We’re authorised by the Financial Conduct Authority as an Electronic Money Institution under the Electronic Money Regulations 2011 and operate segregated client accounts to keep customers’ funds secure.
Hopefully this basic introduction to the currency market has helped you understand how keeping an eye on the news and the latest economic developments can help you get the most out of currency transfers when living abroad.