A Primer on How Currency Manipulation Worked

LONDON — Some of the world’s biggest banks have agreed to pay regulators in Britain, the United States and Switzerland more than $4 billion for conspiring to manipulate benchmark foreign currency rates.

How, according to regulators, did the banks manipulate the rates?

For starters, about $5.3 trillion in currencies, ranging from the United States dollar to the Norwegian krone, are traded every day, making the foreign exchange market one of the largest markets in the world. About 40 percent of that flows through London each day.

Throughout the trading day, currencies are bought and sold based on what people in the market are willing to pay to exchange various currencies. The price of a particular currency can be affected by a variety of factors, including economic data, geopolitical crises and even the price of oil.

But hedge funds, insurers and many other firms need to be able to measure the value of their assets on a daily basis, often in different currencies, and some trading contracts are tied to the value of a currency at a particular point in time.

So how do you decide how to value a British pound against the dollar and remain consistent when the currencies are traded throughout the day?

The answer is a benchmark currency rate, known as a fix. These benchmark rates are intended to measure the value of currencies in relation to each other — the British pound to the euro, for instance — at a specific time of day.

One of the most widely followed fixes is the World Markets/Reuters fix that measures the British pound to the dollar and other currencies at 4 p.m. London time. The other is the European Central Bank fix that measures the value of euro to various currencies at 1:15 p.m. Central European Time.

The WM/Reuters fix is measured over a minute-long period around 4 p.m., while the E.C.B. fix is measured at a single point in time, about 1:15 p.m. C.E.T.

The Financial Conduct Authority of Britain, the Commodity Futures Trading Commission and other regulators have accused traders at several banks of trying to manipulate these benchmark rates and the banks of failing to have proper controls in place to prevent such improper conduct.

The banks that settled with the two regulators on Wednesday are HSBC, JPMorgan Chase, Citigroup, the Royal Bank of Scotland and UBS. Bank of America also entered into a settlement with the Office of the Comptroller of the Currency on Wednesday.

The F.C.A. and C.F.T.C. claim that the traders at different banks met in online chat rooms and colluded on trading strategies, particularly in the moments before a fix was determined, so that their own banks could profit.

By making a large number of bids, or orders, ahead of the fixing time, traders could potentially send the price of a currency up or down. They then could profit from the difference in the fix price and the average price they paid for euros or other currencies throughout the trading day.

Regulators say that making trades to manage a bank’s risk of holding too much of one currency is permissible. But the activity uncovered in this inquiry was strictly to amass outsize profits and not in the interest of bank clients.

In one instance, the British regulator said a trader at Citigroup made a $99,000 profit based on trades executed in a 33-second period ahead of the E.C.B. fix after colluding with traders at four other firms.