What Is a Cross Rate? Meaning and Examples Explained

Currency exchange rates are an essential part of international finance. A cross rate helps determine the exchange value between two currencies that are not paired directly but are each quoted against a third common currency, usually the US Dollar (USD).

A cross rate is the exchange rate calculated between two currencies by using a third currency, typically the USD, as a benchmark. This method is applied when there is no direct exchange rate available between the two currencies.

For instance, to determine the exchange rate of the British Pound (GBP) and the Japanese Yen (JPY) when only their rates against the USD are available, you can compute the cross rate using the USD as a reference.

Cross rates are significant in various scenarios:

• International trade and travel involving currencies without a direct quote
  

• Forex trading strategies involving non-USD pairs
  

• Corporate hedging and treasury management in multinational businesses
  

• Arbitrage opportunities in global financial markets
  

How to Calculate a Cross Rate

Here’s how the calculation for cross rate works:

Formula for Cross Rate:

Cross Rate (A/B) = Rate of A/USD ÷ Rate of B/USD

Where:

• A = First currency (numerator)
  

• B = Second currency (denominator)
  

• Both A and B have a direct quote with USD
  

Example:

You want to find the GBP/JPY rate.

Given:

• 1 GBP = 1.25 USD
  

• 1 USD = 140 JPY
  

Step 1: Convert GBP to USD = 1.25
Step 2: Convert USD to JPY = 140

Cross Rate (GBP/JPY) = 1.25 × 140 = 175
So, 1 GBP = 175 JPY

This is a simplified example. In real trading, bid-ask spreads and inverse rates may affect the calculation.

• Market Volatility – Rapid currency fluctuations can make calculated rates outdated quickly.
  

• Lack of Rate Uniformity – Different sources may quote varying rates for the same currency pair.
  

• Regulatory and Operational Differences – Rules and practices vary across countries and institutions, affecting calculations.

Forex traders use cross rates to:

• Trade currency pairs without USD
  

• Hedge positions involving non-USD currencies
  

• Spot arbitrage opportunities between different markets
  

• Create synthetic pairs for complex strategies
  

Common Cross Currency Pairs:

These pairs may also offer more volatility or trading opportunities compared to USD pairs.

• EUR/GBP
  

• GBP/JPY
  

• EUR/JPY
  

• AUD/NZD
  

• CHF/JPY

Several market factors influence the behaviour of currency cross rates, including:

Arbitrage involves exploiting pricing inefficiencies between direct and cross currency rates across different markets.

Example:

• USD/INR = 83
  

• USD/GBP = 0.80
  

• Calculated Cross Rate (INR/GBP) = 83 × 0.80 = ₹66.40
  If the market quote is ₹67 for GBP/INR, a trader may buy at ₹66.40 and sell at ₹67 to earn a small profit.

Such opportunities are rare and disappear quickly in liquid markets.

While cross rate trading is a common practice, it comes with specific risks:

• Liquidity risk in less traded currency pairs
  

• Spread costs can be higher than major USD pairs
  

• Currency correlation might behave unexpectedly
  

• Exchange rate volatility may amplify losses

Traders should always check real-time bid-ask spreads and market conditions before executing cross pair trades.

For businesses and travellers dealing with exotic currencies:

• Banks and currency exchanges use cross rates to provide conversion
  

• International invoices and receipts may require cross currency settlement
  

• Remittances sent or received in non-USD currency pairs involve cross rate calculations
  

A cross rate allows conversion between two currencies without a direct market quote. It’s essential for forex traders, businesses, and anyone handling foreign exchange to understand cross rate calculations to ensure accuracy and avoid losses. While useful, cross rates come with risks and require careful handling.

This content is for informational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.