The interbank market refers to the global marketplace where major banks trade in various currencies in large volumes, usually running into millions of dollars per transaction. When you trade FX pairs online, the rates that you usually see displayed on your trading platform are derived from this market.
The level of efficiency in this market is such that hundreds of millions of dollars can be traded in a single transaction, executed in a few minutes or seconds. In addition, the parties involved in the market operate with a high degree of trust such that transactions have to be executed on the agreed dates and times.
How is the market regulated?
Because of the vast nature of this market, governments have limited control of the market. Therefore, it is largely unregulated, with no central authority overseeing the business. However, the individual banks still have to adhere to the relevant national laws when undertaking their transactions.
The market is a network of different banks from different countries. However, since some banks are international with comparatively larger revenue bases, they tend to have a greater influence on transaction volumes.
The entities involved
The main entities involved in this market are those with large financial muscles. Mostly these are banks, major FX trading companies, and some hedge funds. Central banks also come into the market at times, but they, unlike the other institutions, are not driven by the profit motive. The other entities are usually after profit and market information.
When central banks come into the market, their main motivation is usually due to the need to maintain a certain level of liquidity in their domestic economies. They achieve this by influencing forex rates and strategic foreign currency reserves.
For individuals and small businesses, this global market is inaccessible because of the sheer volumes of trade involved. In addition, trading in larger quantities of currency comes with substantial discounts. Therefore, small volume trades do not offer enough incentives in this ecosystem.
Getting information about the volume of trade as well as the fluctuation in interbank market quotes is an invaluable tool in the success of an FX investor. This is because it is a platform for several FX market players and can therefore affect liquidity in the larger FX market. This opens up the market to a number of profitable opportunities.
Settlement and trade agreements
In this market, it normally takes about two days to close a transaction. One notable exception is the one-business-day settlement of US currency to Canadian dollar transactions.
As a result of the periodic delays in settlement, trading entities often have to obtain credit from other sources in the intervening period. Because of the risk of delays, the players often have to reach agreements on the modalities of handling such delays.
The interbank market constitutes by far the largest portion of the $6 trillion daily global FX trades. Therefore, if you have a good understanding of the market and information regarding specific currencies, it gives you a great advantage as a trader and investor.
There are two main ways through which trade is conducted in this market. Parties can either transact directly in a peer-to-peer manner or use a broker. There are also entities that are in the market for speculative purposes. In addition, there are some that are in the market to provide liquidity.
Trading the bid-ask spread
The bid-ask spread also accords many entities in the market an opportunity to profit. The bid is the price that buyers offer to sellers, while the ask is the price at which sellers are willing to sell. By evaluating these differences among different players in the market, it is possible to get profitable trading opportunities.
However, because market prices often fluctuate a lot throughout the day, traders must hedge their positions against volatility risk. In addition, dealers typically hold on to their positions for relatively long periods when they have large positions that cannot be dispensed all at once.
Access to in-depth market information
It’s not uncommon for one interbank dealer to service tens of thousands of clients worldwide. Many fx-related financial firms routinely conduct customer transactions and consultations. They may also provide other types of services, such as FX swaps as well as credit default swaps. FX trading is made more appealing by the presence of cross-dealing opportunities in this market.
The ability to access broader information is critical for an interbank FX broker. This kind of information often tells a dealer how far customers are willing to go into or out of trades. In fact, many of their clients aren’t interested in attempting to collect every last penny of a trade.
In evaluating in-depth market information, dealers can see both the predicted exchange rate and the volume of trades. As a result of this data, a dealer will have access to crucial information about the levels of support and resistance.
In summary
In the interbank market, parties are able to transact large volumes of FX trades. Most dealers’ primary objective is to provide a bank’s customer base with liquidity. In addition, the market is a rich source of global FX trading data. Insight into the orders placed on different currencies is invaluable because it helps the dealers make smart decisions and earn more profits by offering comprehensive market data.
