How to price currency forwards

 The currency rate is always stated as  quoting prices in terms of units of the domestic currency per unit of foreign currency

 Recall that in pricing equity forwards, we always reduced the stock price by the present value of the dividends and then compounded the resulting value to the expi- ration date. We can view currencies in the same way. The stock makes cash payments that happen to be called dividends; the currency makes cash payments that happen to be called interest. Although the time pattern of how a stock pays dividends is quite different from the time pattern of how interest accrues, the general idea is the same. After reducing the spot price or rate by any cash flows over the life of the contract, the resulting value is then compounded at the risk-free rate to the expiration day.

In international financial markets, however, this formula has acquired its own name: interest rate parity (sometimes called covered interest rate parity). It expresses the equivalence, or parity, of spot and forward exchange rates, after adjusting for differences in the interest rates in the two countries.

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