Triangulation (finance)

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This article is about finance. For other uses, see Triangulation (disambiguation).

Triangulation is a strategy whereby a trader exploits the relationship between three currencies, as three pairs. For example, EUR/CHF EUR/USD and USD/CHF. EUR/USD and USD/CHF are USD opposites (except for pip value), so if USD is moving, EUR/USD and USD/CHF should move in opposite directions—yet they do not; they move in same direction—but not in an appropriate, proportional amount of price.[1][2]

When traders perform triangulation trades for a profit, their purpose is not to accomplish an otherwise impossible conversion but to make money from market imperfections. To perform successful triangulation trades, all three currencies in question must be directly convertible.

For example, a trader has 100 pounds and each pound buys two euros. Also imagine that each euro buys 1.5 kronas. Starting with 100 pounds, a trader can buy 200 euros and then buy 300 kronas. If the exchange rate between kronas and pounds is such that 2.9 kronas buys one pound, a trader can convert your 300 kronas into 103.4 pounds. In other words, the trader has just made 3.4 pounds.

A profitable triangulation trade is only possible if there are market imperfections. Had the exchange rate between pounds and kronas in the example above been 3–1, no such profit opportunity would exist. Profitable triangulation is very rarely possible, because when such opportunities arise, traders execute trades that take advantage of the imperfections and prices adjust up or down until the opportunity disappears.[3]

References

  1. ↑ Twomey, Brian (25 October 2011). "A Primer On Cross Currency Triangulation". Investopedia. Retrieved 21 December 2013. 
  2. ↑ O'Beirne, Patrick (1998). "Managing Risk in Euro Currency Conversion". Cutter IT Journal 11 (6): 22–29. 
  3. ↑ Ozyasar, Hunkar. "Strategy for FOREX Triangulation". The Nest. Retrieved 21 December 2013. 
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