The cross currency transactions are a very common type of transaction especially in multinational corporations and foreign exchange markets. For contract settlements, this technique is vastly used. If we talk about cross currency, it is also referred as a currency pair that does not involve the US dollar at all. In the case of contract settlement currency, the US Dollar is not included in these types of transactions. The most common cross currency pairs include the Euro and Japanese Yen.
The cross currency investment is an important part of the currency management in the global portfolio. The cross currency basis refers to the shortage of dollars in the market and how the traders are compelled to trade in other currencies or commodities. The negative the basis becomes, the more severe the shortage of dollars it would be. For dollar-funded investors, negative basis can work in their favour when they hedge currency exposures. In order to hedge foreign currency exposure, the dollar-funded investors lend out dollar today and receive it back in the future, earning additional cross currency basis spread on top of the yield of their foreign investments.
The hedging cost of investment is often one of the reasons why the traders opt to trade crosses. To hedge the dollar exposure, the foreign investors borrow the dollar and return it in the future. Due to the higher trade volume of the cross currencies, the prices of these currencies start to move in the upward direction. When the supply of US dollar increases in the forex market, the trade volume increases as well. This is because of repute being the safest investment. However, during this time, the trades in crosses have generated enough profits for the traders.
Most of the volume of trades in the Forex market is based on the US dollar, the price movement is more or less the same. However, cross currencies bring more profitable choices for the traders and the price movements are also different because of the volume and other factors. The Forex market is very dynamic when it comes to trading crosses. When the major pairs are trading sideways, traders have to wait for the trends to become more active.
During this time, the balance of the market is maintained by the cross pairs. Cross Currency Investment comes in handy and this is the reason why it has become a very popular choice among the traders in the recent times. The impact of these currency pairs on the Forex market is not that huge because over 80% traders just want to wait on the side-lines when the market is down and wait for the USD to gain strength or lose it depending on their decision to buy or sell. Trading in crosses also add confidence to the entry points for most traders and help them to stay active and relevant in the market.