Understanding Direct Quotes in Forex: Definition and Examples

What Is a Direct Quote?

A direct quote shows how much domestic currency is needed to buy one unit of foreign currency, for example, how many dollars are required for one euro.

It contrasts with an indirect quote, which expresses the value of the domestic currency in foreign terms. Direct quotes are common in global markets and everyday exchanges, with the U.S. dollar usually serving as the base currency except in cases like the pound or euro. Knowing how they work helps individuals and businesses navigate international transactions more effectively.

How Direct Quotes Work in Currency Exchange

The use of direct quotes versus indirect quotes depends on the location of the trader asking for the quote, as that determines which currency in the pair is domestic and which is foreign. Non-business publications and other media usually quote foreign exchange rates in direct terms for the ease of consumers. However, the foreign exchange market has quoting conventions that transcend local borders.

A direct quote can be compared to an indirect quote as its inverse, or by the following expression:

DQ = 1/IQ

Where:

• DQ = Direct Quote
• IQ = Indirect Quote

In a direct quote, a higher exchange rate implies that the domestic currency is depreciating or becoming weaker since the price of the foreign currency is effectively rising—and vice versa. Thus, if the USD/JPY (direct) quotation changes from 100 to 105, it indicates the yen is weakening against the dollar because it would take 5 more yen (the local currency) to buy 1 USD (the foreign currency).

Direct Quote Examples with U.S. Dollars

The U.S. dollar (USD) is the most traded currency globally. In trading rooms, currencies are usually quoted as foreign units per dollar. Thus, the dollar often serves as the base currency worldwide. An example of a direct quote using U.S. dollars might be stating $1.17 Canadian per U.S. dollar, rather than 85.5 U.S. cents per Canadian dollar, which would be the indirect quote.

Quoting British Pounds: Exceptions to the Rule

A major exception to the dollar-base quote rule is when the British pound (GBP) is quoted against other currencies, including the dollar, but with the exception of the euro. This reflects the fact that the pound was the world's dominant currency in the years leading up to World War II and before the ascendancy of the U.S. economy. The exchange rate for the pound would thus be quoted as $1.45 per £1, regardless of whether this is considered direct (in the United States) or indirect (in the United Kingdom).

Euro Quoting Conventions in Currency Markets

The euro (EUR) came into existence on Jan. 1, 1999 as the unit of account for participating European Union (EU) member nations; notes and coins were first issued on Jan. 1, 2002. The euro replaced many major traded European currencies, including the German mark, the French franc, and the Dutch guilder.

The European Central Bank (ECB) wanted the euro to be a key currency. It stated that the euro should be the base currency when traded, even against the U.S. dollar and the British pound. For this reason, quotes are always the number of dollars, pounds, Swiss francs, or Japanese yen needed to buy €1.

Comparing Direct Quotes and Indirect Quotes in Forex

Why would someone use a direct quote over an indirect quote? The choice between using a direct quote or an indirect quote often hinges on clarity, convenience, and the specific needs of the parties involved. A direct quote is commonly used in countries where the domestic currency is stronger or more stable. For instance, if you’re in the United States and dealing with euros, a direct quote might be expressed as $1.10/€, meaning it takes $1.10 to buy one euro.

This format is particularly useful for individuals or international businesses in the U.S. as it provides a straightforward way to understand the cost of acquiring foreign currency in terms of their own currency. For other countries, a direct quote of €0.90/$1.00 may cater better to that specific region.

Another reason to use a direct quote is its alignment with the way most financial markets present exchange rates. In international finance, direct quotes are commonly used for currency pairs involving major currencies like the USD, GBP, and EUR. This standardization simplifies transactions and financial reporting. This aligns itself to what was mentioned above: the stronger currency is usually the primary currency when looking at exchange rates.

Finally, the choice between direct and indirect quotes can also be influenced by the audience's familiarity with the currency pair. For instance, in the forex market, direct quotes are prevalent for currencies where the U.S. dollar is the base currency. This convention supports better transparency and efficiency in trading and investment decisions as that is the standardized format of reporting.

Exploring Alternative Exchange Rate Quotes

In addition to direct quotes (and indirect quotes), there are several other ways to get exchange rates. These alternatives include:

• Cross Rates: Cross rates involve exchanging one foreign currency for another without involving the domestic currency. For example, if you have the exchange rates for USD/GBP and USD/JPY, you can derive the GBP/JPY cross rate. If the USD/GBP rate is 0.75 and USD/JPY is 110, then the GBP/JPY cross rate would be calculated as 110 / 0.75 = 146.67. Cross rates may bypass the primary currency that's used in a direct quote.
• Bid and Ask Quotes: Bid and ask quotes represent the buying and selling prices of a currency pair. The bid price is the rate at which buyers are willing to purchase the foreign currency, while the ask price is the rate at which sellers are willing to sell it. Naturally, and assuming there may be some volatility, there could be a bid direct quote and an ask direct quote.
• Forward Rates: Forward rates are used in foreign exchange contracts to specify the exchange rate for a future date. This rate is agreed upon today but is applied to transactions occurring at a future date. Keep in mind there may be a forward rate direct quote that you won't want to get confused with a current direct quote (i.e. the prevailing rate today).

The Bottom Line

A direct quote shows how much domestic currency is needed to buy one unit of foreign currency, a format favored for its clarity and wide use in markets with strong currencies.

It's standard for major currencies like the USD, GBP, and EUR, and can be easily converted to an indirect quote by taking the reciprocal. Because direct quotes fluctuate throughout the day, knowing how they work helps businesses and individuals manage the real cost of international transactions.