CFA Practice Question

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CFA Practice Question

The percentage spread on a currency quotation should be smaller for a ______.

A. currency with high volatility than one with low volatility
B. 360 day forward than a 90 day forward
C. currency with many market makers than one with a few market makers
Correct Answer: C

A currency with many market makers should have less risk than one with just a few market makers. The more risk the larger the spread.

User Contributed Comments 6

User Comment
vatsal92 More the traders, lesser is the volatility.
ankurwa10 I think it is more the number of traders, therefore ask/offer is going to be lower (competition?)
J0rdanl Ankurwa - The reasoning provided in the answer is the best to explain this concept - the spread is driven by risk, read the reasoning and then look at why A and B has to be wrong.
Inaganti6 i actually think it's because of arbing.... lack of arbing makes it illiquid and drives more risk....too much arbing leads to liquidity, narrower spreads, and less risk due to liquidity ease
khalifa92 more liquidity in market less bargaining power for dealers
mezoltan It is s simple competition. If you (let's say, as a portfolio manager) can ask 5 traders to quote an FX for you, you can just pick the cheapest, but if there is only 1 trader who can quote that FX, he will use his monopolistic position to quote a higher price for you.
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