What is the mid-market rate definition and why does it matter? If you are making international money transfers, this is something you should be across if you are going to get a competitive deal.
Exchange rates may look complicated, but they don’t need to be. The only one you need to worry about is the mid-market rate. It is going to tell you everything you need to know and help you discover the true cost of any service you’re using.
Read on, and we’ll explore the mid-market rate, to find out how it works and understand why it plays an important role.
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What is the mid-market rate?
The mid-market rate is essentially an exchange rate in its simplest form. Every day in the world’s foreign exchange markets, traders buy and sell currencies with each other on behalf of banks and money transfer services. In doing this, they establish the supply and demand of each currency, which is represented by two prices; the price to buy a particular currency, and the price to sell it.
These two prices are not the same. The buy price will always be slightly lower than the sell price. This encourages traders to enter the market and begin trading – to creating liquidity and allowing the trader to make a small profit in the process. The mid-market rate is the middle point of the two prices and is the clearest representation of the true exchange rate at any one time.
The mid-market rate is also known by other names, such as the interbank rate and real exchange rate. It effectively represents the price at which banks and other financial institutions can acquire currency from each other. As market forces are exerted on a particular currency pairing, its exchange rate will rise and fall accordingly.
Why does it matter?
Understanding what the mid-market rate is and what it represents, is useful when you want to send money online. If we assume that banks and money transfer services can acquire currency at or close to the mid-market rate, we can use it as a benchmark to calculate the overall cost of a service to you, the customer.
When you enter into a foreign exchange transaction, currency is sold to you by a service at a higher rate than which it was purchased. The margin taken by the service is known as “the spread”. Then, in addition to the spread, some services will charge a transaction fee on top – which is typically the fee that is quoted to you.
If you focus on the spread or transaction fee in isolation, it is easy to become lost in marketing gimmicks. Instead, it is more helpful to consider the overall cost – the combination of the two – when compared with the mid-market rate. To find out the exchange rate of any currency pairing, use this calculator at xe.com.
Calculating the cost of a service: An example
Let’s walk through an example together.
Say that you wanted to conduct a business money transfer of 1,000 British Pounds (GBP) into Australian Dollars (AUD). The first thing you would do is to check the current GBP/AUD mid-market rate. For the sake of simplicity, let’s assume the rate is 1.5000, which means that your £1,000 is worth $1,500 at the current available exchange rate.
Now, let’s visit a transfer service – in this example, TransferWise. You are provided with a quoted rate of 1.5000, which is exactly the mid-market rate – quite a good deal. However, they also charge a transaction fee of £5. Instead of focusing on either of the two factors in isolation, let’s compare the amount received with a theoretical conversion at the mid-market rate.
Here is the calculation:
|GBP/AUD conversion @ mid-market rate (1.5000)||$1,500|
|Amount lost (spread + transaction fee)||– $8|
As you can see, by comparing the amount received with the equivalent conversion at the mid-market rate we discovered that the overall cost of the transaction was $8 – or 0.50% when represented as a percentage of the transfer value.
How to use the mid-rate in your own transactions
By using the mid-market rate as a benchmark in which to measure the cost of a service, you are provided with a much clearer picture of what’s really going on. And by expressing the cost as a percentage of the transfer value, you are able to compare money transfer services much more easily.
The next time you are making a transfer, consider doing your own calculation of the overall cost of the service your using. Once you know the method to follow, it’s not all that hard to do. From the above example, the calculation is as follows:
(Amount lost $8 / Mid-market conversion $1500) x 100 = 0.50%
This method is exactly the same one we use to determine the cost of each service we review. In our opinion, not only is it the fairest way of measuring cost, but also the best way of comparing services on a like for like basis. That way, you know that you’re getting a competitive deal.
The mid-market rate is the best measure of the true exchange rate of a currency pairing at any one time. Is it also helpful for understanding the overall cost of using a money transfer service. By representing the cost of a service as a percentage of the transfer value, you are able to compare services quickly and easily.
If you have any questions or queries, let us know in the comments below.