Why often trading currency and interest-rate markets concurrently by the same group of people has been so common in many places? Is it because these markets behave quite similarly? Are there any underlying structural reasons (such as economical/ physical/ quantitative/ etc) for that?
That is correct. I don't have the time at the moment to provide a detailed explanation, but think for example of an FX transaction as a parallel loan in one currency and a parallel borrowing in another, assuming that at some future date you will reverse the transaction. Clearly the future cashflows (at the reversal) are dependent on the interest rates in each currency. Interest rates will end up affecting the final cashflows, hence the forward/future exchange rates. Strangely enough, at least in the short term, the prices in the FX forwards market - which are derived by simple no arbitrage conditions - are at odds with what *usually* happens in the real world. The carry trade appears to win (money piled into the higher yielding currency, i.e., higher interest rates), like I said, at least in the short term. Further out there are far too many events that cause rates to move from those given by simple no arbitrage relations under interest rate parity.
Thanks guys. I just found the following links to start learning/understanding it first. http://en.wikipedia.org/wiki/Interest_rate_parity http://www.riskglossary.com/articles/interest_rate_parity.htm http://www.investopedia.com/terms/i/interestrateparity.asp http://www.investorwords.com/7356/interest_rate_parity.html