Settlement currency 

Settlement currency 

Settlement currency plays a very important role in global trade and finance as it enables seamless transactions and reduces currency risks in the market. Settlement currency is essential in international trade and finance, allowing smooth transactions and avoiding currency risks. It assures that transaction parties agree on a common currency for payment, resulting in increased efficiency and cutting out uncertainties. 

What is settlement currency? 

The currency in which funds are transferred to the vendor’s bank account, as well as the currency in which the vendor demands payment, is known as the settlement currency. Your payment processor’s features and the accessibility of accounts will determine whether you can have one settlement currency or more. 

Understanding settlement currency 

Understanding settlement currency matters for both businesses and investors because it significantly affects the stability, cost, and timeliness of foreign trade in today’s interlinked global economy.  

Liquidity, stability, and acceptance in global markets are usually taken into consideration when selecting settlement currency. It streamlines the procedure for all parties involved by ensuring consistency and transparency in international transactions.  

It is crucial to have a processor that provides the necessary currencies for clients in countries where you currently operate and will be selling to when it involves settlement currencies. In order to limit foreign exchange charges, you should also search for a system that incorporates a large number of comparable currencies. Reducing fees eventually translates into more profitability. 

Working of settlement currency 

Settlement currency serves as the preferred method for exchanging financial assets after a trade. When undertaking global trade or investments, the parties agree on a specific currency for settlement, which is often stable and widely accepted.  

Consider a US company, XYZ, selling to a Singaporean client. Consider a US-based corporation selling to a Singaporean customer. They agree that the settlement currency will be US dollars (US$). Once the transaction is completed in US$, the Singaporean buyer transfers Singapore dollars (SGX) into US$ in order to settle the payment. Using a similar settlement currency saves both parties from the challenges that come with fluctuating exchange rates and different currency denominations.  

Let’s say an investor seeks to buy 1,000 EUR in US$. The conversion rate between these two currencies is 1 EUR = 1.08 US$. Euros will serve as the transaction or trade currency, with the US dollar serving as the settlement currency.  

Therefore, the settlement currency (yen) is calculated as 1,000 EUR x 1.08 US$  = 1080 US$.

Risk of settlement currency 

Despite the fact that it streamlines international trade, settlement money involves certain risks, which are as follows: 

  • Fluctuating exchange rate 

Due to fluctuating exchange rates between the settlement currency and other currencies that might impact the trade’s value, foreign exchange risk is a significant source of concern. For example, there may be financial consequences if the settlement currency depreciates in relation to the trade partners’ currencies. 

  • Counterparty risks 

Relying on sole settlement currency may increase losses if one party experiences financial difficulties or fails on the transaction, particularly if the currency depreciates considerably. 

  • Liquidity risks 

One way to add liquidity risk and maybe cause delays or issues in the transaction process is to use a less stable or liquid currency as the settlement currency. 

  • Currency risk 

Parties who rely only on a single settlement currency are subject to all of the risks that come with it, such as inflation, unstable economies, and changes in the central bank’s or government’s policies. 

Example of settlement currency 

For example, a Singaporean company is importing products from the US. The US dollar is the mutually agreed-upon settlement currency for their trading transactions. The Singaporean company pays the US exporter in US dollars after completing a purchase order.  

Due to the US dollar’s widespread acceptance and stability, both parties can reduce their exposure to foreign exchange risk and expedite the transaction process by utilising it as the settlement currency. Additionally, this choice assists in eliminating possible currency fluctuations that can affect the transaction’s value. 

Frequently Asked Questions

Settlement currency has several benefits, including reduced currency risk for all parties, streamlining financial planning, optimising transactions by standardising currency for settlement, and boosting efficiency in international trading. 

 If the settlement currency is different from the trade currency, it may be vulnerable to exchange rate volatility. In addition, there are sovereign risks, such as reliance on the stability and regulations of the country issuing the settlement currency, as well as currency conversion expenses. 

 

The actual currency exchange takes place two business days after the transactions in the United States, where the typical time of currency settlement is T+2. Similar rules apply in Singapore regarding the timing of currency settlement; the actual exchange of currencies occurs within two business days after the trade date, and the standard settlement period is T+2.  All necessary logistical and administrative procedures related to currency transactions can be completed within this settlement period. 

The currency that is used for transferring funds to satisfy the financial obligations resulting from a trade is known as the payment currency, whereas the settlement currency is the currency in which you can receive payments based on the charge type and appropriate currency conversion.  

Payment currency relates to the transfer of funds needed to wrap up the transaction, whereas settlement currency deals with the actual exchange of securities. 

Presentment currency represents the currency used to issue and present a negotiable instrument for payment, such as promissory notes or cheque. The currency that the payee is expected to get payment in is the one indicated on the instrument.  

In order to guarantee that the payee receives the precise currency as specified by the negotiable instrument, the presentment currency is essential for figuring out the quantity and currency in which the payment must be delivered. 

The currency used when financial assets are delivered as part of a trade is referred to as the settlement currency. Conversely, the currency used to initiate a trade is known as the trade currency. While settlement currency refers to the genuine exchange of securities, trade currency is the currency whereby the transaction value is initially negotiated. 

    Read the Latest Market Journal

    Weekly Updates 27/5/24 – 31/5/24

    Published on May 27, 2024 41 

    This weekly update is designed to help you stay informed and relate economic and company...

    Unlocking Stock Market Potential with AI

    Published on May 24, 2024 78 

    Introduction of AI In the world we live in today, artificial intelligence (AI) is almost...

    Financial Sectors Thriving: Top Traded Counters in April 2024

    Published on May 21, 2024 92 

    At a glance: The Federal Reserve (Fed) held interest rates steady at 5.25% to 5.5%...

    One Dollar at a Time: The Potential of Fractional Shares

    Published on May 20, 2024 91 

    Table of contents 1. Introduction 2. Dollar-Cost Averaging 3. Popularity of Dollar-Cost Averaging 4. Small...

    Unit Trusts vs Exchange Traded Funds (ETFs) – Which is better for your portfolio?

    Published on May 20, 2024 91 

    Imagine you are dining at a nice restaurant, feeling overwhelmed by the variety of seemingly...

    Weekly Updates 20/5/24 – 24/5/24

    Published on May 20, 2024 22 

    This weekly update is designed to help you stay informed and relate economic and company...

    What is CFD? With 2 Practical Examples

    Published on May 15, 2024 109 

    In this article, you will learn what CFD (Contract for Difference) is, the costs and...

    What is ESG investing, and why is it important?

    Published on May 15, 2024 118 

    Over the last five years, Environmental, Social, and Governance (ESG) investing has evolved from being...

    Contact us to Open an Account

    Need Assistance? Share your Details and we’ll get back to you

    IMPORTANT INFORMATION

    This material is provided by Phillip Capital Management (S) Ltd (“PCM”) for general information only and does not constitute a recommendation, an offer to sell, or a solicitation of any offer to invest in any of the exchange-traded fund (“ETF”) or the unit trust (“Products”) mentioned herein. It does not have any regard to your specific investment objectives, financial situation and any of your particular needs. You should read the Prospectus and the accompanying Product Highlights Sheet (“PHS”) for key features, key risks and other important information of the Products and obtain advice from a financial adviser (“FA“) pursuant to a separate engagement before making a commitment to invest in the Products. In the event that you choose not to obtain advice from a FA, you should assess whether the Products are suitable for you before proceeding to invest. A copy of the Prospectus and PHS are available from PCM, any of its Participating Dealers (“PDs“) for the ETF, or any of its authorised distributors for the unit trust managed by PCM.  

    An ETF is not like a typical unit trust as the units of the ETF (the “Units“) are to be listed and traded like any share on the Singapore Exchange Securities Trading Limited (“SGX-ST”). Listing on the SGX-ST does not guarantee a liquid market for the Units which may be traded at prices above or below its NAV or may be suspended or delisted. Investors may buy or sell the Units on SGX-ST when it is listed. Investors cannot create or redeem Units directly with PCM and have no rights to request PCM to redeem or purchase their Units. Creation and redemption of Units are through PDs if investors are clients of the PDs, who have no obligation to agree to create or redeem Units on behalf of any investor and may impose terms and conditions in connection with such creation or redemption orders. Please refer to the Prospectus of the ETF for more details.  

    Investments are subject to investment risks including the possible loss of the principal amount invested. The purchase of a unit in a fund is not the same as placing your money on deposit with a bank or deposit-taking company. There is no guarantee as to the amount of capital invested or return received. The value of the units and the income accruing to the units may fall or rise. Past performance is not necessarily indicative of the future or likely performance of the Products. There can be no assurance that investment objectives will be achieved.  

    Where applicable, fund(s) may invest in financial derivatives and/or participate in securities lending and repurchase transactions for the purpose of hedging and/or efficient portfolio management, subject to the relevant regulatory requirements. PCM reserves the discretion to determine if currency exposure should be hedged actively, passively or not at all, in the best interest of the Products.  

    The regular dividend distributions, out of either income and/or capital, are not guaranteed and subject to PCM’s discretion. Past payout yields and payments do not represent future payout yields and payments. Such dividend distributions will reduce the available capital for reinvestment and may result in an immediate decrease in the net asset value (“NAV”) of the Products. Please refer to <www.phillipfunds.com> for more information in relation to the dividend distributions.  

    The information provided herein may be obtained or compiled from public and/or third party sources that PCM has no reason to believe are unreliable. Any opinion or view herein is an expression of belief of the individual author or the indicated source (as applicable) only. PCM makes no representation or warranty that such information is accurate, complete, verified or should be relied upon as such. The information does not constitute, and should not be used as a substitute for tax, legal or investment advice.  

    The information herein are not for any person in any jurisdiction or country where such distribution or availability for use would contravene any applicable law or regulation or would subject PCM to any registration or licensing requirement in such jurisdiction or country. The Products is not offered to U.S. Persons. PhillipCapital Group of Companies, including PCM, their affiliates and/or their officers, directors and/or employees may own or have positions in the Products. Any member of the PhillipCapital Group of Companies may have acted upon or used the information, analyses and opinions herein before they have been published. 

    This advertisement has not been reviewed by the Monetary Authority of Singapore.  

     

    Phillip Capital Management (S) Ltd (Co. Reg. No. 199905233W)  
    250 North Bridge Road #06-00, Raffles City Tower ,Singapore 179101 
    Tel: (65) 6230 8133 Fax: (65) 65383066 www.phillipfunds.com