Transaction Currency and Denominated Currency

Summary

A deal's cash flows and results are properly expressed in its denominated currency – the standard finance concept a monetary item is said to be "denominated in" (IAS 21 defines a monetary item this way; see EBC Financial Group: What Is Denominated Currency? for a practitioner-level definition) – before any cross-currency aggregation is performed. Transaction currency is Finance's closely related term (see NetSuite: What Is Transaction Currency?) for the native currency of an accounting entry actually posted to the ledger. The two coincide whenever a genuine transactional currency exists for the instrument – a forward, a deposit, cash – and only diverge where no single transactional currency applies, such as a vanilla option, whose actual "transaction" is the premium rather than the notional; for those cases, the denominated currency has to be determined from the instrument's own characteristics instead of read off a single fixed field.

Detail

Transaction currency

A forward, to take the canonical example, has two legs and therefore two transactional currencies, one per leg; the ledger receives every position – live and settled cash alike – expressed in transaction currency, since that is simply the currency the underlying accounting entry was actually posted in. Transaction currency is not inferred; it is a direct property of the entry itself, which is what makes it the more concrete of the two concepts and the one Finance reaches for first.

Determining denominated currency per instrument type

Not every instrument has a single, self-evident transactional currency to fall back on, so the denominated currency has to be determined from a per-instrument-type rule instead:

Instrument type	Denominated currency
Cash	Cash currency
Repo	Repo currency
Option	Premium currency
Forward	Base currency
Cross-currency swap	Base currency
Other	Principal currency

The same logic extends to the deal's Greeks: Delta is expressed in base currency, P&L in the denominated currency, so that a report reader sees each measure in the currency where it is genuinely most legible rather than in whatever currency happened to be aggregated to first. Where a transactional currency genuinely exists for the instrument – forwards, deposits, cash – it is used directly, and the table above is needed only for the remaining cases, a vanilla option being the clearest: there, the "transaction" is really the premium, so premium currency is what supplies the currency of denomination rather than any notional currency the option is written against.

Why the distinction exists at all

Transaction currency and denominated currency matter as separate concepts because a single product can generate cash flows in more than one currency at once – a cross-currency swap's two legs, an FX forward's base and quote sides – and normalising each deal down to one currency per deal is what makes its results comparable to another deal's before any full, cross-currency aggregation is attempted. Currency's other spokes pick up from here: once a deal's currency of denomination is settled, functional currency governs how its book-level accounting entry is translated, and aggregation currency governs how it is combined with every other deal's figure for risk and reporting purposes.