What do the rates of exchange I see online actually mean?

Google 'Pound to Euro exchange rate' now and click on the first search result to appear.

We're going to use that search result to frame our explanation of what you see when you look online for an exchange rate and it will also frame our explanation as to how what you see isn't necessarily what you're going to get.

The first thing to say is that the website you're looking at is not faceless. It has not come top in your search by coincidence.

If it is the same one that appeared at the top of our search, it is in fact an online currency transfer business.

Like us, this company assists people who want to exchange currency between bank accounts; as you can imagine, they pay a lot to be top of your search.

What you will also see just below their representation of 'the rate' is a little disclaimer stating:

"All figures are based on live mid-market rates. These rates are not available to consumer clients."

This begs the questions:

'what are 'live mid-market rates?'


'what rates are available to consumer clients?'

If you are showing me a rate of exchange, why is it not available to me as a 'consumer client' and what is?

Forgive us if we're teaching you something you already know. If we are then great, but, this post might not be for you.

For those unfamiliar with the jargon being used, let us set the scene with regards to currencies, 'markets' and the exchange of money around the world:

Globally the sales and purchase of businesses, currencies, securities and all manner of other things private capital can buy and sell, takes place within a sort of virtual 'network' which is commonly referred to as a 'market'.

Imagine a real 'market'. Like a farmers market, except rather than twee little candy cain awnings shielding cheeses, bread and fresh veg, the vendors in these markets are selling a euro, or debt in a company, or a share in a listed business, or a house.

Amazon is considered an online 'market place' and certain big financial institutions might even be considered the financial equivalent of a super market as they have a huge variety of products, financial instruments and so on under one roof.

We appreciate that this may seem an overly simplistic analogy, but, a 'market' in the context of financial services really can be understood in this way as the old traditional markets, with a buyer, a seller and potential for negotiation based on volume, demand and payment in cash (for instance).

At the moment the UK runs on a free-market economic model. We aren't economists, so we won't go into the alternatives, but, in a nut-shell this means that the state, other than through regulation of certain markets, is not directly intervening in the prices set by the vendors within these markets.

Prices are, for the most part, determined by the market and what it's participants are willing to pay.

So, when you hear someone refer to the 'currency markets' you could and should quite understandably visualise a series of market stalls all over the world selling euros, dollars, sterling, yen.

Some stalls will only sell the wears of the territory they operate in.

Some very rich market participants can and do stockpile the currencies of other stall holders.

All of this happens above our heads down here on the high-street, but, it all has an affect on what rates of exchange filter down to you and I.

Generally speaking the main purveyors of currencies in this virtual market place are banks.

We could go in to more detail, but, let's say that banks are the sellers in this market place and everyone else is the buyer; if we accept that then the premise is easier to extrapolate.

So, a big market place with many stall holders all of which are banks.

How then do you and I or anyone else 'looking-in' know what a country's currency is worth relative to another currency elsewhere in the market?

With so many different vendors and purveyors of currencies, how do we know what the actual rate of exchange is given that all these banks might be asking you to pay a different price for the currency they're selling...?

Well, certain financial and news focussed organisations will publish a feed of the average rate offered by a selection of these banks.

It is a snap shot of the average of all these rates to buy and sell currencies offered and made by banks.

Some of these outlets update their feeds and averages in real time, so it is rolling ever climbing and falling average.

You could liken bank exchange rates to your facebook or twitter feed, and organisations like Bloomberg or the BBC are publishing the 'trending' numbers across that feed, providing you with an average or an overview of what banks are talking about between themselves.

Other outlets update their published rate every 15 minutes or just twice daily.

Most daily news papers will only publish this average in their morning run.

How often the feed or averaged rate is updated does not matter unless you're trying to use that middle-market for an actual calculation.

So, when you search the web for a rate of exchange, the results you are met with are not actually the rates that one bank will offer you...they are, more often than not, the average rate being presented to 'the market' by a variety of these banks.

The average rate is also known as the 'mid market' rate.

So, bringing us back to your initial search...the rate you see is a reflection of the mid-market average and, as per their disclaimer, this is not available to you as a consumer.

So, what is?

Minute by minute, second by second, sophisticated electronic systems are matching up someone at a bank who wants to buy a currency, with someone at a different bank who wants to sell one.

Were I a bank and if I am 'in the market' to buy a currency then I can tell the other participants in the market what I am prepared to pay for a currency.

I can place a 'bid' of what I am prepared to pay and software used by all those banks operating at an 'inter-bank' level will match my bid with what someone else is asking for...their 'ask'.

When these sophisticated electronic systems match my 'bid' with the price that an institution might 'ask' the deal/exchange is automatically executed.

Now, you and I as individuals sadly don't exchange enough currency for us to have access to the market place used by banks and other big institutions.

We are not banks, so we cannot expect to achieve this rate.

Our (yours and my as individuals) route to buy currency is either through our bank directly...which is what you may be doing already, or it is through another institution who can broker for us a better rate than our bank will give us direct...someone like Prime Cap for instance.