BAJAJ BROKING
March 13, 2025
5 mins read
A cross rate means the exchange rate between two currencies, neither of which is the US Dollar. To calculate a cross rate between two currencies, we use their exchange Read more..rate against a common third currency, which is typically the USD. For example, if we know the value of the Japanese Yen against the US Dollar and the value of the Euro against the US Dollar, we can calculate the value of the Japanese Yen against the Euro, which will be called the cross rate between these two currencies. Read less
A cross rate is a popular term in the foreign exchange market. It refers to the exchange rate between two currencies, neither of which is the US Dollar. To calculate a cross rate, we use the exchange rate of each currency in a pair against a common third currency, which is mostly the US Dollar.
In the forex market, currencies are traded in a pair of two. Essentially speaking, one currency is valued in terms of another currency. A currency pair that does not have the US Dollar is called a cross-currency pair. There are many popular currencies in the forex market, like the Japanese Yen, Pound Sterling, Euro, Canadian Dollar, New Zealand Dollar, and US Dollar. If you trade in any of these currencies and your trade does not include the US Dollar, it is called a cross-currency pair. Having learnt what a cross rate is, let us discuss this topic further.
As already discussed, in the forex market, a cross rate means the exchange rate between two currencies (excluding the US Dollar). A number of currencies, like Euro (EUR), British Pound (GBP), and Japanese Yen (JPY), are exchanged with each other in the forex market. For such transactions, a cross rate makes it easy to determine the exchange range between two currencies with the help of a common third currency, which is mostly the US Dollar (USD).
Let us say that you want to calculate the exchange rate between GBP and EUR by using USD. Here are the steps you should follow:
a) You need to find the exchange rate of both GBP and EUR against USD.
b) Let us say that 1 GBP = 1.3 USD and 1 EUR = 1.05 USD.
c) You need to divide the exchange rate of the first currency (GBP/USD) by the exchange rate of the second currency (EUR/USD).
d) Step 3 will provide you with the cross rate between GBP and EUR.
e) Hence, 1 GBP / 1 EUR = 1.3 / 1.05 = 1.24 approximately. This means that 1 GBP is equal to around 1.24 EUR.
Cross rates are important for several reasons, which are explained below:
Facilitate business operations across many geographies: For companies with operations across many countries, cross rates help minimize transaction fees and reduce the layers of currency conversion. They especially help multinational companies smoothly manage their operations across many regions with diverse currencies.
Crucial for global trade: Cross rates facilitate direct currency conversions, thereby smoothing international transactions. They ensure that double conversions are not required, which are otherwise needed when trading partners do not use the same currency. For example, a Japanese company can directly pay its British trading partner in GBP using JPY.
Useful in financial markets: Cross rates play a fundamental role in forex trading. Traders can speculate on the movement in currencies with the help of cross rates. They can also hedge against currency risk without having to use a third currency, thereby reducing their transaction costs and improving the efficiency of their operations.
The most prominent examples of major cross-currency pairs are the Euro versus the British Pound (also known as EUR/GBP) and the Euro versus the Japanese Yen (also called EUR/JPY). These two are among the top 10 most traded currency pairs in the world.
Certain cross rates trade in the interbank market; however, they are less active. Some of these include the Swiss Franc vis-à-vis the Japanese Yen (CHF/JPY) and the British Pound vis-à-vis the Swiss Franc (GBP/CHF).
Many factors impact cross currency rates by affecting the value of one currency against that of another currency. Some of the most important factors are discussed below:
Interest rates: A country’s currency can become stronger or weaker when its central bank changes interest rates. For example, when a central bank increases interest rates, it can attract foreign investors, which can increase the demand for the local currency, thereby improving its value.
Economic factors: A country’s economic performance on parameters like the unemployment rate, GDP growth, and inflation affects its currency’s value. A strong economic performance can improve a currency’s value, and vice versa.
Political stability: A politically stable country tends to have a stronger currency compared to that of a politically unstable country. This is because investors feel more assured while investing in a politically stable country.
Market sentiment: The prevailing sentiment in local and global markets can also affect a currency’s value. If traders feel upbeat about the prospects of a currency, its value may increase, and vice versa.
In order to trade in the forex market, you need to understand the differences between cross rates and direct currency quotes. So, please go through the following table:
Criteria | Cross Rates | Direct Currency Quotes |
Meaning | A cross rate refers to the exchange rate between two currencies. None of these currencies should be the US Dollar. | A direct currency quote is the exchange rate between the US Dollar and a foreign currency. |
Method of calculation | To calculate it, you need the exchange rates of two currencies vis-a-vis a common currency, which is usually the US Dollar. | This is directly quoted in terms of how much of a foreign currency is equal to one US Dollar. |
Use case | A cross rate is used to determine the exchange rate between two currencies, neither of which is the US Dollar. | A direct currency quote is used when the USD is directly involved in the exchange rate. |
Level of complexity | You need intermediary currencies to calculate cross rates. Hence, their calculation can be complex. | In the case of a direct currency quote, you only need a currency’s value in terms of the US Dollar. Hence, it is simpler to understand. |
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This content is for educational purposes only. Securities quoted are exemplary and not recommendatory.
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A cross rate is the rate of exchange between two currencies, neither of which is the USD. However, a direct exchange rate involves the USD, as it represents the value of a foreign currency in terms of USD.
As cross rates help determine currency values between pairs without the help of USD, they are important for traders and investors. With the help of cross rates, traders can make correct decisions with regard to buying or selling currencies.
Cross rates can impact the cost of exchanging two currencies, which can affect the cost of products/services between two countries. Hence, cross rates can certainly affect international business transactions.
Some of the most common currency pairs are Euro to Japanese Yen, British Pound to Japanese Yen, and Euro to British Pound.
Geopolitical events, like war and conflicts, can affect currency values adversely, leading to fluctuations in cross rates as market participants respond to potential risks caused by such events.
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