Consider a scenario where you want to trade forex directly with a bank or financial institution.
To trade, say, USD to GBP without the input of a central exchange, you could open a banking account in the UK via which you can execute your buy and sell positions without losing profit when changing one currency for another.
There is an opportunity to do this via a Nostro account, which may sound like a complex term but is simply the Latin for ‘ours.’
What will happen is that your local bank will establish an account for you at a bank in the country of the currency you wish to trade, e.g., they’ll open an account in the UK on your behalf if you want to trade USD/GBP. Your balance will be displayed in that foreign currency.
On the flip side, there are Vostro accounts – the Latin for which is ‘yours.’ This refers to a ‘foreign’ account in the base country.
If you want to trade forex, opening a Nostro account might be a smart move to cut down on some of the associated costs without having the necessary physical presence in the target country. However, it should be noted that there are some tight security controls, and money can only be switched between international accounts via wire transfer in many cases.
No exchange, no problem
The principal benefit of holding a Nostro account is that you won’t have to convert one currency to another to get your hands on your money. That is significant because a decent chunk of profits can be lost in conversion costs when trading forex by traditional means.
Opening a Nostro account with a domestic bank is typically a quick and hassle-free affair. So, there is no more efficient way to create a financial footprint for yourself in an international country than this.
There may also be some cost savings, as many Nostro accounts will be free of charge when it comes to transferring funds from your foreign provider to your domestic bank.
An example of Nostro-Vostro banking
If we work through an example, hopefully, the relationship between Nostro and Vostro banking – and the benefits to you as a forex trader – will become apparent.
Based in the US, let’s say that you have an account with Citibank. Keen to trade the USD/GBP forex pair, you decide to request a Nostro account within the UK – Citibank has a relationship with the Yorkshire Bank (just a made-up example), so it provides the necessary admin on your behalf.
Any money you send to the UK will be held in Citibank’s account with Yorkshire Bank. Funds can be exchanged between the two using an international wire transfer – SWIFT is commonly used in Nostro and Vostro account transactions.
Your funds will then be transferred into the local currency, so your Yorkshire Bank account will display your holdings in GBP. Likewise, when money is sent from Yorkshire to Citibank, it is converted to USD and added to your standard banking account.
As you can probably tell, there are numerous benefits to opening a Nostro account if you plan on consistently investing in a particular foreign currency.