foriegn exchange and anlaysis through risk maangement

8/10/2019 foriegn exchange and anlaysis through risk maangement

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FOREIGN EXCHANGE & RI SK MANGEMENT

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1. INTRODUCTION

Foreign exchange is the process of conversion of one currency into another currency. For a

country its currency becomes money and legal tender. For a foreign country it becomes the valueas a commodity. This commodity character can be understood when we study about ‗Exchange

Rate‘ mechanism. Since the commodity has a value its relation with the other currency

determines the exchange value of one currency with the other. For example, the US dollar in

USA is the currency in USA but for India it is just like a commodity, which has a value which

varies according to demand and supply.

Foreign exchange is that section of economic activity, which deals with the means, and methods

by which rights to wealth expressed in terms of the currency of one country are converted into

rights to wealth in terms of the current of another country.

It involves the investigation of the method, which exchanges the currency of one country for that

of another. Foreign exchange can also be defined as the means of payment in which currencies

are converted into each other and by which international transfers are made; also the activity of

transacting business in further means.




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2. OBJECTIVES

To define Foreign Exchange market

To understand the work flow of Foreign Exchange transaction

To study the working various department of bank in FOREX.

To get knowledge about the hedging tools used in foreign exchange

My Objective is to throw light on the importance of study of process of Import/exportin Forex.

If the bank knows the value of the services or products, which they are Providing to

their clients, then it becomes very easy to price them and enhance profitability. For

this purpose there is need to understand the Foreign Exchange market and varioustypes of deals that occur.




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3. RESEARCH METHODOLOGY

DATA ACQUISITION METHOD

The research has been based on data acquired from the various companies and banks in India.

Data Type consists of facts, motives and opinions have been extracted through open-ended

questions and other information though close ended questions.

SOURCES OF DATA

The data has been collected both through primary as well as secondary sources.

(i) Secondary Sources: - Data through secondary sources have been collected from

journals published by Reserve Bank of India and other commercial banks like State

Bank of India, Bank of India etc. Internet also provided some important information

and few financial statements were also reviewed and analysed. The objective of the

secondary data collection has been to get consolidated information on the foreign

exchange dealings and transactions in India. The usage of secondary data has been

minimal in the research.

DATA ANALYSIS

The Data Analysis was done on the basis of the information available from varioussources




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4. NEED OF FOREIGN EXCHANGE

Changes in exchange rates induce changes in the value of a firm‘s assets, liabilities and

cash flows, especially when these are denominated in a foreign currency.

Therefore, fluctuations in the currency markets have an impact on our outgoing import

payments and incoming export funds

our foreign exchange risk is influenced by many factors such as length of exposure and

currency volatility

By managing the risk, we could maximize profits or minimize the risk

Let us consider a case where a Indian company exports electronic goods to USA and invoices the

goods in US Dollars. The Amercian importer will pay the amount in US Dollars, as the same as

his home currency. However the Indian exporter requires INR means his home currency for

procuring raw materials and for payment to the labour charges, etc. this he would need

exchanging US dollars for INR. If the INDIAN exporters invoice his goods in INR, then

importer in USA will get his dollars converted in INR and pay the exporter.

From the above example we can infer that in case goods are bought or sold outside the country,

exchange of currency in necessary.

Sometimes it also happens that transaction between two countries will be settled in the currency

of the third country. That case both the countries, which are transacting will require converting

their perspective currencies in the currency of the third country. For that also the foreign

exchange is required. For example, an Indian exporter, exporting goods to Singapore may rise an

invoice for the goods sold in US dollars and as the importer in Singapore has to make payment in

US Dollars, he will have to exchange his Singapore dollars into US dollars. The Indian exporter

on receipt of US dollars will exchange them into Indian rupees. Thus, the transaction will giverise to exchange of currencies in the exporter‘s country as well as importer‘s country. Such

transaction may give rise to conversation of currencies at two stages.




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5. THE FOREIGN EXCHANGE MARKET

The foreign exchange market (Currency, Forex, or FX) market is where currency

trading takes place. It is where banks and other official institutions facilitate the buying and

selling of foreign currencies. FX transactions typically involve one party purchasing a quantity of

one currency in exchange for paying a quantity of another. The foreign exchange market that we

see today started evolving during the 1970s when world over countries gradually switched to

floating exchange rate from their erstwhile exchange rate regime, which remained fixed as per

the Bretton Woods system till 1971.

Today, the FX market is one of the largest and most liquid financial markets in the world,

and includes trading between large banks, central banks, currency speculators, corporations,

governments, and other institutions. The average daily volume in the global foreign exchange

and related markets is continuously growing. Traditional daily turnover was reported to be over

USD 3.8 trillion in April 2008 by the Bank for International Settlements. Since then, the market

has continued to grow. According to Euro money‘s annual FX Poll, volumes grew a further 41%

between 2007 and 2008.

The purpose of FX market is to facilitate trade and investment. The need for a foreign

exchange market arises because of the presence of multifarious international currencies such as

US Dollar, Pound Sterling, etc., and the need for trading in such currencies.

Market Participants

Unlike a stock market, where all participants have access to the same prices, the foreign

exchange market is divided into levels of access. At the top is the inter-bank market, which is

made up of the largest investment banking firms. Within the inter-bank market, spreads, which

are the difference between the bids and ask prices, are razor sharp and usually unavailable, andnot known to players outside the inner circle. The difference between the bid and ask prices

widens (from 0-1 points to 1-2 points for some currencies such as the EUR). This is due to

volume. If a trader can guarantee large numbers of transactions for large amounts, they can

demand a smaller difference between the bid and ask price, which is referred to as a better

spread. The levels of access that make up the foreign exchange market are determined by the size




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of the ―line‖ (the amount of money with which they are trading). The top-tier inter-bank market

accounts for 53% of all transactions. After that there are usually smaller investment banks,

followed by large multi-national corporations (which need to hedge risk and pay employees in

different countries), large hedge funds, and even some of the retail FX-metal market makers.

According to Galati and Melvin, ―Pension funds, insurance companies, mutual funds, and other

institutional investors have played an increasingly important role in financial markets in general,

and in FX markets in particular, since the early 2000s.‖ (2004) In addition, he notes, ―Hedge

funds have grown markedly over the 2001 – 2004 period in terms of both number and overall

size‖ Central banks also participate in the for eign exchange market to align currencies to their

economic needs.

Banks

The inter-bank market caters for both the majority of commercial turnover and large

amounts of speculative trading every day. A large bank may trade billions of dollars daily. Some

of this trading is undertaken on behalf of customers, but much is conducted by proprietary desks,

trading for the bank's own account.

Until recently, foreign exchange brokers did large amounts of business, facilitating inter-

bank trading and matching anonymous counterparts for small fees. Today, however, much of this business has moved on to more efficient electronic systems. The broker squawk box lets traders

listen in on ongoing inter-bank trading and is heard in most trading rooms, but turnover is

noticeably smaller than just a few years ago.

Commercial Companies

An important part of this market comes from the financial activities of companies seeking

foreign exchange to pay for goods or services. Commercial companies often trade fairly smallamounts compared to those of banks or speculators, and their trades often have little short term

impact on market rates. Nevertheless, trade flows are an important factor in the long-term

direction of a currency's exchange rate. Some multinational companies can have an unpredictable

impact when very large positions are covered due to exposures that are ...not widely known by

other market participants.




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6. FOREX MARKET IN INDIA

Traditionally Indian forex market has been a highly regulated one. Till about 1992-93,

government exercised absolute control on the exchange rate, export-import policy, FDI ( Foreign

Direct Investment) policy. The Foreign Exchange Regulation Act(FERA)enacted in 1973,

strictly controlled any activities in any remote way related to foreign exchange. FERA was

introduced during 1973, when foreign exchange was a scarce commodity. Post independence,

union government‘s socialistic way of managing business and the license raj made the Indian

companies noncompetitive in the international market, leading to decline in export.

Simultaneously India import bill because of capital goods, crude oil & petrol products increased

the forex outgo leading to sever scarcity of foreign exchange. FERA was enacted so that all forex

earnings by companies and residents have to reported and surrendered (immediately after

receiving) to RBI (Reserve Bank of India) at a rate which was mandated by RBI. FERA was

given the real power by making ―any violation of FERA was a criminal offense liable to

imprisonment‖. It a professed a policy of ―a person is guilty of forex violations unless he proves

that he has not violated any norms of FERA‖. To sum up, FERA prescribed a polic y – ―nothing

(forex transactions) is permitted unless specifically mentioned in the act‖.

Post liberalization, the Government of India, felt the necessity to liberalize the foreign

exchange policy. Hence, Foreign Exchange Management Act (FEMA) 2000 was introduced.

FEMA expanded the list of activities in which a person/company can undertake forex

transactions. Through FEMA, government liberalized the export-import policy, limits of FDI

(Foreign Direct Investment) & FII (Foreign Institutional Investors) investments and repatriations,

cross-border M&A and fund raising activities.

Prior to 1992, Government of India strictly controlled the exchange rate. After 1992,

Government of India slowly started relaxing the control and exchange rate became more and

more market determined. Foreign Exchange Dealer‘s association of India (FEDAI), set up in

1958, helped the government of India in framing rules and regulation to conduct forex exchange

trading and developing forex market In India.




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7. ADMINISTRATION FRAME WORK FOR FOREIGN EXCHANGE IN

INDIA

The Central Government has been empowered under Section 46 of the Foreign Exchange

Management Act to make rules to carry out the provisions of the Act. Similarly, Section 47

empowers the Reserve Bank to make regulations to carry out the provisions of the Act and the

rules made there under.

The Foreign Contribution (Regulation) Act, 1976 is to regulate the acceptance and utilization of

foreign contribution/ donation or foreign hospitality by certain persons or associations , with a

view to ensuring that Parliamentary institutions, political associations and academic and other

voluntary organizations as well as individuals working in the important areas of national life may

function in a manner consistent with the values of a sovereign democratic republic.

It is basically an act to ensure that the integrity of Indian institutions and persons is maintained

and that they are not unduly influenced by foreign donations to the prejudice of India‘s interests.

The Foreign Exchange Management Act (FEMA) is a law to replace the draconian Foreign

Exchange Regulation Act, 1973. Any offense under FERA was a criminal offense liable to

imprisonment, Whereas FEMA seeks to make offenses relating to foreign exchange civil

offenses. Unlike other laws where everything is permitted unless specifically prohibited, under

FERA nothing was permitted unless specifically permitted. Hence the tenor and tone of the Act

was very drastic. It provided for imprisonment of even a very minor offense. Under FERA, a

person is presumed innocent unless he is proven guilty. With liberalization, a need was felt to

remove the drastic measure of FERA and replace them by a set of liberal foreign exchange

management regulations. Therefore FEMA was enacted to replace FERA.

FEMA extends to the whole of India. It applies to all Branches, offences and agencies outside

India owned or controlled by a person resident in India and also to any contravention there under

committed outside India by any person to whom this Act applies.




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FEMA contains definitions of certain terms which have been used throughout the Act. The

meaning of these terms may differ under other laws or common language. But for the purpose of

FEMA, the terms will signify the meaning as defined there under.

What is FERA?

The Foreign Exchange Management Act, 1999, (FEMA) is an Act to consolidate and amend the

law relating to Foreign Exchange, with the objective of facilitating external trade and, payments

and for promoting the orderly development and maintenance of the foreign exchange market in

India.

(1) This Act may be called the Foreign Exchange Regulation Act, 1973.

(2) It extends to the whole of India.

(3) It applies also to all citizens of India outside India and to branches and agencies outside

India of companies or bodies corporate, registered or incorporated in India.

(4) It shall came into force on such date as the Central Government may, by notification in the

Official Gazette, appoint in this behalf:

Provided that different dates may be appointed for different provisions of this Act and any

reference in any such provision to the commencement of this Act shall be construed as a

reference to the coming into force of that provision.

Why FERA?

a) FERA was introduced at a time when foreign exchange (Forex) reserves of the country were

low, Forex being a scarce commodity.

b) FERA therefore proceeded on the presumption that all foreign exchange earned by Indian

residents rightfully belonged to the Government of India and had to be collected and

surrendered to the Reserve bank of India (RBI).

c) It regulated not only transactions in Forex, but also all financial transactions with non-

residents. FERA primarily prohibited all transactions, except to the extent permitted by

general or specific permission by RBI.

• Objective of FERA

The main objective of the FERA 1973 was to consolidate and amend the law regulating:

Certain payments;

Dealings in foreign exchange and securities;




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Transactions, indirectly affecting foreign exchange;

the import and export of currency, for the conservation of the foreign exchange resources

of the country;

The proper utilization of this foreign exchange so as to promote the economic

development of the country

The basic purpose of FERA was:

a) To help RBI in maintaining exchange rate stability.

b) To conserve precious foreign exchange.

c) To prevent/regulate foreign business in India

Progression/Transfer of FERA to FEMA

FERA in its existing form became ineffective, therefore, increasingly incompatible with thechange in economic policy in the early 1990s. While the need for sustained husbandry of foreign

exchange was recognized, there was an outcry for a less aggressive and mellower enactment,

couched in milder language. Thus, the Foreign Exchange Management Act, 1999 (FEMA) came

into being.

The scheme of FERA provided for obtaining Reserve Bank‘s permission either special or

general, in respect of most of the regulations there under. The general permissions have

been granted by Reserve bank under these provisions in respect of various matters by

issuing a large number of notifications from time to time since the Act came into force

from 1st January 1974. Special permissions were granted upon the applicants submitting

prescribed applications for the purpose. Thus, in order to understand the operative part of

the regulations one had to refer to the Exchange Control Manual as well as the various

notifications issued by RBI and the Central Government.

FEMA has brought about a sea change in this regard and except for section 3, which

relates to dealing in foreign exchange, etc. no other provisions of FEMA stipulate

obtaining RBI permission. It appears that this is a transition from the era of permissions to

regulations. The emphasis of FEMA is on RBI laying down the regulations rather than

granting permissions on case to case basis. This transition has also taken away the concept




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of ―exchange control‖ and brought in the era of ―exchange management‖. In view of this

change, the title of the legislation has rightly been changed to FEMA.

The preamble to FEMA lays down that the Act is to consolidate and amend the law

relating to foreign exchange with the objective of facilitating external trade and payments

and for promoting the orderly development and maintenance of foreign exchange market

in India. As far as facilitating external trade is concerned, section 5 of the Act removes

restrictions on drawal of foreign exchange for the purpose of current account transactions.

As external trade i.e. import / export of goods & services involve transactions on current

account, there will be no need for seeking RBI permissions in connection with remittances

involving external trade. The need to remove restrictions on current account transactions

was necessitated as the country had given notice to the IMF in August, 1994 that it had

attained Article VIII status. This notice meant that no restrictions will be imposed on

remittances of foreign exchange on account of current account transactions.

Need for FEMA

The demand for new legislation was basically on two main counts.

The FERA was introduced in 1974when India‘s foreign exchange reserves position was

not satisfactory. It required stringent controls to conserve foreign exchange and to utilize

in the best interest of the country. Very strict restrictions have outlived their utility in the

current changed scenario. Secondly there was a need to remove the draconian provisions

of FERA and have a forward-looking legislation covering foreign exchange matters.

Repeal of draconian provisions under FERA

The draconian regulations under FERA related to unbridled powers of Enforcement

Directorate. These powers enabled Enforcement Directorate to arrest any person, search

any premises, seize documents and start proceedings against any person for contraventionof FERA or for preparations of contravention of FERA. The contravention under FERA

was treated as criminal offence and the burden of proof was on the guilty.




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Why there was a need to scrap FERA?

a) The Foreign Exchange Regulation Act was replaced by the Foreign Exchange Management

Act as it was an impediment in India's to go global.

b) India's foreign exchange transactions were governed under the Foreign Exchange Regulation

Act until June 2000. This law had been enacted in 1973 when the Indian economy was facing a

crisis and foreign exchange had become a precious commodity. But by the nineties, FERA had

outlived its utility and was in fact, an impediment in India's effort to go global and compete with

other developing countries.

c) Thus, there was a need to scrap FERA and the Foreign Exchange Management Act, 1999

came into effect on June 1, 2000. However some of the relevant progresses made, from FERA to

FEMA, are as follows:

Withdrawal of Foreign Exchange

Now, the restrictions on withdrawal of Foreign Exchange for the purpose of current Account

Transactions, has been removed. However, the Central Government may, in public interest in

consultation with the Reserve Bank impose such reasonable restrictions for current account

transactions as may be prescribed.

FEMA has also by and large removed the restrictions on transactions in foreign Exchange on

account of trade in goods, services except for retaining certain enabling provisions for the

Central Government to impose reasonable restriction in public interest.

What is FEMA?

The Foreign Exchange Regulation Act of 1973 (FERA) in India was repealed on 1st

June, 2000. It was replaced by the Foreign Exchange Management Act (FEMA), which was

passed in the winter session of Parliament in 1999. Enacted in 1973, in the backdrop of acute

shortage of Foreign Exchange in the country, FERA had a controversial 27 year stint during

which many bosses of the Indian Corporate world found themselves at the mercy of the

Enforcement Directorate (E.D.). Any offense under FERA was a criminal offense liable to

imprisonment, whereas FEMA seeks to make offenses relating to foreign exchange civil

offenses. FEMA, which has replaced FERA, had become the need of the hour since FERA had

become incompatible with the pro-liberalization policies of the Government of India. FEMA has

brought a new management regime of Foreign Exchange consistent with the emerging frame




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work of the World Trade Organization (WTO). It is another matter that enactment of FEMA

also brought with it Prevention of Money Laundering Act, 2002 which came into effect recently

from 1st July, 2005 and the heat of which is yet to be felt as ―Enforcement Directorate‖ would be

investigating the cases under PMLA too.

Unlike other laws where everything is permitted unless specifically prohibited, under

FERA nothing was permitted unless specifically permitted. Hence the tenor and tone of the Act

was very drastic. It provided for imprisonment of even a very minor offence. Under FERA, a

person was presumed guilty unless he proved himself innocent whereas under other laws, a

person is presumed innocent unless he is proven guilty.

•

Objectives and Extent of FEMA

The objective of the Act is to consolidate and amend the law relating to foreign exchange

with the objective of facilitating external trade and payments and for promoting the orderly

development and maintenance of foreign exchange market in India. FEMA extends to the whole

of India. It applies to all branches, offices and agencies outside India owned or controlled by a

person who is a resident of India and also to any contravention there under committed outside

India by any person to whom this Act applies.

7.1 FERA & FEMA

a) Similarities & Differences between FERA & FEMA

Similarities:

The similarities between FERA and FEMA are as follows:

The Reserve Bank of India and central government would continue to be the regulatory

bodies.

The Directorate of Enforcement continues to be the agency for enforcement of the

provisions of the law such as conducting search and seizure

Sr.

No DIFFERENCES FERA FEMA

1PROVISIONS FERA consisted of 81 sections, and was more

complexFEMA is much simple, and consist of only 49sections.

2FEATURES Presumption of negative intention (Mens Rea )

and joining hands in offence (abatement)existed in FEMA

These presumptions of Mens Rea and abatement have been excluded in FEMA




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a) Key Terms/Glossary with respect to FERA & FEMA

1.Authorised Person - "Authorised person" means an authorised dealer, moneychanger,

offshore banking unit or any other person for the time being authorised under section 10(1) to

deal in foreign exchange securities.

3

NEW TERMS INFEMA

Terms like Capital Account Transaction, currentAccount Transaction, person, service etc. werenot defined in FERA.

Terms like Capital Account Transaction, currentaccount Transaction person, service etc., have beendefined in detail in FEMA.

4DEFINITION OFAUTHORIZEDPERSON

Definition of "Authorized Person" in FERA wasa narrow one ( 2(b)

The definition of Authorized person has beenwidened to include banks, money changes, off shore banking Units etc. (2 ( c )

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MEANING OF"RESIDENT" ASCOMPAREDWITH INCOMETAX ACT.

There was a big difference in the definition of"Resident", under FERA, and Income Tax Act

The provision of FEMA, are in consistent withincome Tax Act, in respect to the definition of term "Resident". Now the criteria of "In India for 182 days"to make a person resident has been brought underFEMA. Therefore a person who qualifies to be a non-resident under the income Tax Act, 1961 will also beconsidered a non-resident for the purposes ofapplication of FEMA, but a person who is consideredto be non-resident under FEMA may not necessarily be a non-resident under the Income Tax Act, for

instance a business man going abroad and stayingtherefore a period of 182 days or more in a financialyear will become a non-resident under FEMA.

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PUNISHMENT Any offence under FERA, was a criminaloffence , punishable with imprisonment as percode of criminal procedure, 1973

Here, the offence is considered to be a civil offenceonly punishable with some amount of money as a penalty. Imprisonment is prescribed only when onefails to pay the penalty.

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QUANTUM OFPENALTY.

The monetary penalty payable under FERA,was nearly the five times the amount involved.

Under FEMA the quantum of penalty has beenconsiderably decreased to three times the amountinvolved.

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APPEAL An appeal against the order of "Adjudicatingoffice", before " Foreign Exchange RegulationAppellate Board went before High Court

The appellate authority under FEMA is the specialDirector ( Appeals) Appeal against the order ofAdjudicating Authorities and special Director(appeals) lies before "Appellate Tribunal for ForeignExchange." An appeal from an order of AppellateTribunal would lie to the High Court. (sec 17,18,35)

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RIGHT OFASSISTANCEDURING LEGALPROCEEDINGS.

FERA did not contain any express provision onthe right of on impleaded person to take legalassistance

FEMA expressly recognizes the right of appellant totake assistance of legal practitioner or charteredaccountant (32)

10POWER OFSEARCH ANDSEIZE

FERA conferred wide powers on a policeofficer not below the rank of a DeputySuperintendent of Police to make a search

The scope and power of search and seizure has beencurtailed to a great extent




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2.Capital Account Transaction - "Capital account transaction" means a transaction which alters

the assets or liabilities, including contingent liabilities, outside India of persons resident in India

or assets or liabilities in India of person resident outside India, and includes transactions referred

to in sub-section (3) of section 6

3. Current Account Transaction - "Current account transaction" means a transaction other

than a capital account transaction and without prejudice to the generality of the foregoing such

transaction includes,-

• Payments due in connection with foreign trade, other current business, services, and short-

term banking and credit facilities in the ordinary course of business.

• Payments due as interest on loans and as net income from investments.

• Remittances for living expenses of parents, spouse and children residing abroad, and

•

Expenses in connection with foreign travel, education and medical care of parents, spouse

and children;

Foreign exchange reserves - A country's reserves of foreign currencies. Commonly

known as ―quick cash", they can be used immediately to finance imports and other foreign

payables.

Foreign portfolio investment - Investment into financial instruments such as stocks and

bonds in which the objective is not to engage in business but to merely generate dividend

income and capital gains. The larger portion of international investment flows in the world

today is FPIs.

Forward contract - An arrangement between two parties to trade specified amounts of two

Currencies at some designated future due date at an agreed price. More than a formal hedge

against unforeseen changes in currency prices, it guarantees certainty in the foreign exchange

rate at the contract's delivery date.

Authorized dealer - "authorized dealer" means a person for the time being authorised under

section 6 to deal in foreign exchange;

Drawal - "Drawal' means drawal of foreign exchange from an authorized person and

includes opening of Letter of Credit or use of International Debit Card or A TM card orany other thing by whatever name called which has the effect of creating foreign

exchange liability.

Currency [including relevant notification]

"Currency" includes all currency notes, postal notes, postal orders, money orders, cheques,

drafts, travellers cheques, letters of credit, bills of exchange and promissory notes, credit

cards or such other similar instruments, as may be notified by the Reserve Bank;




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7.2FOREIGN EXCHANGE DEALER’S ASSOCIATION OFINDIA (FEDAI)

FEDAI was establishing in 1958 as an association of all authorized dealers in India. The

principal functions of FEDAI are:

•

To frame rules for the conduct of foreign exchange business in India. These rules cover various

aspects like hours of business, charges for foreign exchange transactions, and quotation of rates to

customer, inter bank dealings, etc. All authorized dealers have given undertaking to the Reserve

Bank to abide these rules.

•

To coordinate with Reserve Bank of India in Proper administration of exchange control.

•

To control information likely to be of interest to its members.

•

Thus, FEDAI provides a vital link in the administrative set-up of foreign exchange in India.

Authorized Money Changers:

To provide facilities for encashment of foreign currency for tourists, etc., Reserve Bank has

granted limited licenses to certain established firms, hotels and other organizations permitting

them to deal in foreign currency notes, coins and travelers‘ cheques subject to directions issued

to them from time to time. These f irms and organizations are called ‗Authorized Money

Changers‘. An authorized money changer may be a full-fledged money changer or a restricted

money changer. A full-fledged money changer is authorized to undertake both purchase and sale

transactions with the public. A restricted money changer is authorized only to purchase foreign

currency notes, coins and travelers‘ cheques subject to the condition that all such collections are

surrendered by him in turn to authorized dealer in foreign exchange. The current thinking of the

Reserve Bank is to authorize more establishments as authorized money changers in order to

facilitate easy conversion facilities.

Authorized persons:

With the Reserve Bank has the authority to administer foreign exchange in India, it is recognized

that it cannot do so by itself. Foreign exchange is received or required by a large number of

exports and imports in the country spread over a vast geographical area. It would be impossible

for the reserve Bank to deal with them individually. Therefore, provisions has been made in the

Act, enabling the Reserve Bank to authority any person to be known as authority person to deal




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8. FOREIGN EXHANGE TRANSACTIONS

Foreign exchange transactions taking place in foreign exchange markets can be broadly

classified into interbank transactions and Merchant transactions. The foreign exchange

transactions taking place among banks are known as interbank transactions and the rates quoted

are known as interbank rates. The foreign exchange transactions that take place between a bank

and its customer known as‘ Merchant transactions‘ and the rates quoted are known as merchant

rates.

Merchant transactions take place when as exporter approaches his bank to convert his sale proceeds to home currency or when an importer approaches his banker to convert domestic

currency into foreign currency to pay his dues on import or when a resident approaches his bank

to convert foreign currency received by him into home currency or vice versa. When a bank

buys foreign exchange from a customer it sells the same in the interbank market at a higher rate

and books profit. Similarly, when a bank sells foreign exchange to a customer, it buys from the

interbank market, loads its margin and thus makes a profit in the deal.

The modes of foreign exchange remittances

Foreign exchange transactions involve flow of foreign exchange into the country or out of the

country depending upon the nature of transactions. A purchase transaction results in inflow of

foreign exchange while a sale transaction result in inflow of foreign exchange. The former is

known as inward remittance and the latter is known as outward remittance.

Remittance could take place through various modes. Some of them are:

Demand draft

Mail transfer

Telegraphic transfer

Personal cheques




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Types of buying rates:

TT buying rate and

Bill buying rate

TT buying rate: is the rate applied when the transaction does not involve any delay in the

realization of the foreign exchange by the bank. In other words, the Nostro account of the bank

would already have been credited. This rate is calculated by deducting from the inter bank

buying rate the exchange margin as determined by the bank.

Bill buying rate: This is the rate to be applied when foreign bill is purchased. When a bill is

purchased, the rupee equivalent of the bill values is paid to the exporter immediately.

However, the proceeds will be realized by the bank after the bill is presented at the overseas

centre.

Types of selling rates:

TT selling rates

Bill selling rates

TT Selling rate: All sale transactions which do not handling documents are put through at TT

selling rates.

Bill Selling rates: This is the rate applied for all sale transactions with public which involve

handling of documents by the bank

Inter Bank transactions:The exchange rates quoted by banks to their customer are based on the rates prevalent in the

Inter Bank market. The big banks in the market are known as market makers, as they are willing

to pay or sell foreign currencies at the rates quoted by them up to any extent. Depending upon its

resources, a bank may be a market in one or few major currencies. When a banker approaches




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the market maker, it would not reveal its intention to buy or sell the currency. This is done in

order to get a fair price from the market maker.

Two way quotations

Typically, then quotation in the Inter Bank market is a two- way quotation. It means, the rate

quoted by the market maker will indicate two prices, one which it is willing to buy the foreign

currency and the other at which it is willing to sell the foreign currency. For example, a Mumbai

bank may quote its rate for US dollars as under.

USD 1= Rs.60.15255/1650

More often, the rate would be quoted as 1525/1650 since the players in the market are expected

to know the ‗big number‘ i.e., Rs.50. in the above quotation, once rate us Rs.60.1525 per dollar

and the other rate is Rs.60.1650 per dollar.

Direct quotation

It will be obvious that the quotation bank will be to buy dollars at 60.1525 and sell dollars at

Rs.60.1650. if once dollar bought and sold, the bank makes a profit of 0.0125.

In a foreign exchange quotation, the foreign currency is the commodity that is being bought and

sold. The exchange quotation which gives the price for the foreign v\currency in term of the

domestic currency is known as direct quotation. In a direct quotation, the quoting bank will apply

the rule: ―buy low‘ sell high‖.

Indirect quotation

There is another way of quoting in the foreign exchange market. The Mumbai bank quote the

rate for dollar as:

Rs.100=USD 2.4762/4767

This type of quotation which gives the quality of foreign currency per unit of domestic currency

is known as indirect quotation. In this case, the quoting bank will receive USD 2.4767 per

Rs.100 while buying dollars and give away USD 2.4762 per Rs.100 while selling dollars In other

words, ―Buy high, sell low‖ is applied.




22

This buying rate is also known as the ‗bid‘ rate and the selling rate as the ‗offer‘ rate. The

difference between these rates is the gross profit for the bank and known as the ‗Spread‘.

Spot and forward transactions

The transactions in the Inter Bank market May place for settlement-

On the same day; or

Two days later;

Some day late; say after a month

Where the agreement to buy and sell is agreed upon and executed on the same date, the

transaction is known as cash or ready transaction. It is also known as value today.

The transaction where the exchange of currencies takes place after the date of contract is known

as the Spot Transaction. For instance if the contract is made on Monday, the delivery should take

place on Wednesday. If Wednesday is a holiday, the delivery will take place on the next day, i.e.,

Thursday. Rupee payment is also made on the same day the foreign exchange is received.

The transaction in which the exchange of currencies takes place at a specified future date,

subsequent to the spot rate, is known as a forward transaction . The forwards transaction can be

for delivery one month or two months or three months, etc. A forward contract for delivery onemonth means the exchange of currencies will take place after one month from the date of

contract. A forwards contract for delivery two months means the exchange of currencies will

take place after two months and so on.

Spot and Forwards rates

Spot rate of exchange is the rate for immediate delivery of foreign exchange. It is prevailing at a

particular point of time. In a forward rate, the quoted is for delivery at a future date, which is

usually 30, 60, 90 or 180 days later. The forward rate may be at premium or discount to the spot

rate, Premium rate, i.e., forward rate is higher than the spot rate, implies that the foreign currency

is to appreciate its value in tae future. May be due to larger demand for goods and services of the

country of that currency. The percentage of annualized discount or premium in a forward quote,

in relation to the spot rate, is computed by the following.




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Forward Premium = Forward rate-spot rate * 12

(Discount) Spot rate No. of months forward

If the spot rate is higher than the forward rate, there is forward discount and if the forward rate

higher than the spot rate there is forward premium rate.

Forward margin/Swap points

Forward rate may be the same as the spot rate for the currency. Then it is said to be ‗at par‘ with

the spot rate. But this rarely happens. More often the forward rate for a currency may be costlier

or cheaper than its spot rate. The difference between the forward rate and the spot rate is known

as the ‗Forward margin‘ or ‗Swap Points‘. The forward margin may be at a premium or at

discount. If the forward margin is at premium, the foreign currency will be costlier under

forward rate than under the spot rate. If the forward margin is at discount, the foreign currency

will be cheaper for forward delivery than for spot delivery.

Under direct quotation, premium is added to the spot rate to arrive at the forward rate. This is

done for both purchase and sale transactions. Discount is deducted from spot rate to arrive at the

forward rates.

Other rates

Buying rate and selling refers to the rate at which a dealer in forex is willing to buy the forex and

sell the forex. In theory, there should not be difference in these rates. But in practices, the selling

rate is higher than the buying rate. The forex dealer, while buying the forex pay less rupees, but

gets more when he sells the forex. After adjusting for operating expenses, the dealer books a

profit through the ‗buy and sell‘ rates differences.

Transactions in exchange market consist of purchases and sales of currencies between dealers

and customers and between dealers and dealers. The dealers buy forex in the form of bills, drafts

and with foreign banks, from customer to enable them to receive payments from abroad.




24

The resulting accumulated currency balances with dealers are disposed of by selling instruments

to customers who need forex to make payment to foreigners. The selling price for a currency

quoted by the dealer (a bank) is slightly higher than the purchase price to give the bank small

profit in the business. Each dealer gives a two-way quote in forex.

Single Rate refers to the practices of adopting just rate between the two currencies. A rate for

exports, other for imports, other for transaction with preferred area, etc, if adopted by a country,

that situation is known as multiple rates.

Fixed rate refers to that rate which is fixed in terms of gold or is pegged to another currency

which has a fixed value in terms of gold. Flexible rate keeps the exchange rate fixed over a short

period, but allows the same to vary in the long term in view of the changes and shifts in another

as conditioned by the free of market forces. The rate is allowed to freely float at all times.

Current rate: Current rate of exchange between two currencies fluctuate from day to day or

even minute to minute, due to changes in demand and supply. But these movements take place

around a rate which may be called the ‗normal rate‘ or the par of exchange or the true rate.

International payments are made by different instruments, which differ in their time to maturity.

A Telegraphic Transfer (TT) is the quickest means of effecting payments. A T.T rate is

therefore, higher than that of any other kind of bill. A sum can be transferred from a bank in one

country to a bank in another part of the world by cable or telex. It is thus, the quickest method of

transmitting funds from one center to another.

Slight rates applicable in the case of bill instrument with attending delay in maturity and

possible loss of instrument in transit, are lower than most other rates.

Similarly, there are other clusters of rates, such as, one month‘s rate, 3month‘s rate. Longer the

duration, lower the price (of the foreign currency in terms of domestic).

The exchange rate between two given currencies may be obtained from the rates of these two

currencies in terms of a third currency. The resulting rate is called the Cross rate.




25

Arbitrage in the foreign exchange market refers to buying a foreign currency in a market where

it is selling lower and selling the same in a market where it is bought higher. Arbitrage involves

no risk as rates are known in advance. Further, there is no investment required, as the purchase of

one currency is financed by the sale of other currency. Arbitrageurs gain in the process of

arbitraging.




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9. INTRODUCTION OF FOREIGN EXCHANGE RISK

The risk of an investment's value changing due to changes in currency exchange

rates. The risk that an investor will have to close out a long or short position in a foreign

currency at a loss due to an adverse movement in exchange rates. Also known as "currency risk"

or "exchange-rate risk‖. This risk usually affects businesses that export and/or import, but it can

also affect investors making international investments. For example, if money must be converted

to another currency to make a certain investment, then any changes in the currency exchange

rate will cause that investment's value to either decrease or increase when the investment is sold

and converted back into the original currency.

The risk that the exchange rate on a foreign currency will move against the position held

by an investor such that the value of the investment is reduced. For example, if an investor

residing in the United States purchases a bond denominated in Japanese yen, deterioration in the

rate at which the yen exchanges for dollars will reduce the investor's rate of return, since he or

she must eventually exchange the yen for dollars. Also called exchange rate risk .

In 1971, the Bretton Woods system of administering fixed foreign exchange rates was

abolished in favor of market-determination of foreign exchange rates; a regime of fluctuating

exchange rates was introduced. Besides market-determined fluctuations, there was a lot of

volatility in other markets around the world owing to increased inflation and the oil shock.

Corporate struggled to cope with the uncertainty in profits, cash flows and future costs. It was

then that financial derivatives – foreign currency, interest rate, and commodity derivatives

emerged as means of managing risks facing corporations. In India, exchange rates were

deregulated and were allowed to be determined by markets in 1993.

The economic liberalization of the early nineties facilitated the introduction of derivatives

based on interest rates and foreign exchange. However derivative use is still a highly regulated

area due to the partial convertibility of the rupee. Currently forwards, swaps and options are

available in India and the use of foreign currency derivatives is permitted for hedging purposes




27

only. The risks related to foreign exchange are many and are mainly on account of the

fluctuations in foreign currency.

CAUSES OF FLUCTUATIONS IN FOREIGN CURRENCY

1.

Foreign exchange rates are influenced by domestic as well as international factors and

happenings.

2. Foreign exchange dealings cross national boundaries and rates move on the basis of

governmental regulations, fiscal policies, political instabilities and a variety of other causes.

3. Foreign exchange rate movements, like the stock market, are influenced by sentiments that

may not always be logical.

4. Foreign exchange is traded hours a day at different markets and dealers cannot be in control

at all times.

5. The ratings of credit agencies can affect the exchange rate. For instance, when Indian‘s

foreign exchange rating was downgraded by Moody‘s in the mid— 1990s, the value of rupee

fell.

6. A rate move instantaneously and very fast. A hesitation of a few seconds or minutes can

change a profit to a loss and vice versa.




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9.1 TYPES OF FOREIGN EXCHANGE RISK

Risks associated with foreign exchange may be broadly classified as:

1. Transaction risk.

2. Position risk.

3. Settlement or credit risk.

4. Mismatch or liquidity risk.

5. Operational risk.

6. Sovereign risk.

7. Cross- country risk.

A. Transaction risk:

Any transaction leading to future receipts in any form or creation of long term

asset. This consists of a number of:

1. Trading items (foreign currency, invoiced trade receivables and payables) and

2. Capital items (foreign currency dividend and loan payments)

3. Exposure associated with the ownership of foreign currency denominated assets and

liabilities.B. Position risk:

Bank dealings with customers continuously, both on spot and forward basis, results

in positions (buy i.e. long position or sell i.e. short position) being created in currencies in

which these transactions are denominated. A position risk occurs when a dealer in bank has

an overbought (long) or an oversold (short) position. Dealers enter into these positions in

anticipation of a favorable movement.

The risk arising out of open positions is easy to understand. If one currency is

overbought and it weakens, one would be able to square the overbought position only by

selling the currency at a loss. The same would be the position if one is oversold and the

currency hardens.




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C. Settlement or credit risk:

Also known as time zone risk, this is a form of credit risk that arises from transactions

where the currencies settle in different time zones. A transaction is not complete until

settlement has taken place in the latest applicable time zone. This is also referred to as

―Herstatt Risk‖. Arising from the failure or default of a counterparty. Technically, this is

a credit risk where only one side of the transaction has settled. If a counterparty fails

before any settlement of a contract occurs, the risk is limited to the difference between

the contract price and the current market price (i.e. an exchange rate risk).

Settlement risk is the risk of a counterparty failing to meet its obligations in a financial

transaction after the bank has fulfilled its obligations on the date of settlement of the

contract. Settlement risk exposure potentially exists in foreign exchange or local currency

money market business.

D. Mismatch or liquidity risk:

In the foreign exchange business it is not always possible to be in an ideal position where

sales and purchases are matched or according to maturity and there are no mismatched

situations. Some mismatching of maturities is in general unavoidable. Liquidity risk' arises

from situations in which a party interested in trading an asset cannot do it because nobody in

the market wants to trade that asset. Liquidity risk becomes particularly important to parties

who are about to hold or currently hold an asset, since it affects their ability to trade.

Manifestation of liquidity risk is very different from a drop of price to zero. In case of a

drop of an asset's price to zero, the market is saying that the asset is worthless. However, if

one party cannot find another party interested in trading the asset, this can potentially be

only a problem of the market participants with finding each other. This is why liquidity risk

is usually found higher in emerging markets or low-volume markets.

Liquidity risk is financial risk due to uncertain liquidity. An institution might lose liquidity

if its credit rating falls, it experiences sudden unexpected cash outflows, or some other

event causes counterparties to avoid trading with or lending to the institution. A firm is also

exposed to liquidity risk if markets on which it depends are subject to loss of liquidity.

Liquidity risk tends to compound other risks. If a trading organization has a position in an

illiquid asset, its limited ability to liquidate that position at short notice will compound its

http://en.wikipedia.org/wiki/Asset

http://en.wikipedia.org/wiki/Market

http://en.wikipedia.org/wiki/Party


http://en.wikipedia.org/wiki/Financial_risk

http://en.wikipedia.org/wiki/Liquidity

http://en.wikipedia.org/wiki/Credit_rating

http://en.wikipedia.org/wiki/Credit_rating

http://en.wikipedia.org/wiki/Liquidity

http://en.wikipedia.org/wiki/Financial_risk


http://en.wikipedia.org/wiki/Party


http://en.wikipedia.org/wiki/Asset




30

market risk. Suppose a firm has offsetting cash flows with two different counterparties on a

given day. If the counterparty that owes it a payment defaults, the firm will have to raise

cash from other sources to make its payment. Should it be unable to do so, it too will

default. Here, liquidity risk is compounding credit risk.

E. Operational risk:

Operational risk are related to the manner in which transactions are settled or handled

operationally. Some of the risks are discussed below:

a) Dealing and settlement: This functions must be properly separated, as otherwise there

would be inadequate segregation of duties.

b) Confirmation: Dealing is usually done by telephone/telex/Reuters or some other

electronic system. It is essential that these deals are confirmed by written confirmations.

There is a risk of mistakes being made related to amount, rate, value, date and the likes.

c) Pipeline transactions: There are, at times, faults in communication and often cover is not

available for pipeline transactions entered into by branches. There can be delays in

conveying details of transactions to the dealer for a cover resulting in the actual position

of the bank being different from what is shown by the dealers position statement.

d) Overdue bills and forward contracts: The trade finance departments of banks normally

monitor the maturity of export bills and forward contracts. A risk exists in that the

monitoring may not be done properly.

F. Sovereign risk: Another risk which banks and other agencies that deal in foreign exchange

have to be aware of is sovereign risk- the risk on the government of a country.

G. Cross-country risk: It is often not prudent to have large exposures on any one country may go

through troubled times. I such a situation, the bank/entity that has an exposure could suffer

large losses. To control and limit risks arising out of cross country exposures, management

normally lay down cross country exposure limits. Risk management in foreign exchange is

imperative as the lack of these could even result in the bankruptcy and closure of the

organization.

http://en.wikipedia.org/wiki/Counterparty

http://en.wikipedia.org/wiki/Payment


http://en.wikipedia.org/wiki/Risk

http://en.wikipedia.org/wiki/Credit_risk

http://en.wikipedia.org/wiki/Credit_risk

http://en.wikipedia.org/wiki/Risk



http://en.wikipedia.org/wiki/Counterparty




31

9.2CLASSIFICATION OF FOREIGN RISK

When an institution or organization or individual deal with foreign currencies they are

exposed to various types of risk related to foreign exchange

Types of Exposure

There are mainly three types of foreign exchange exposures:

1. Translation Exposure

2. Transaction Exposure

3. Economic Exposure

1. Translation Exposure:

It is the degree to which a firm‘s foreign currency denominated fina ncial statements is

affected by exchange rate changes. All financial statements of a foreign subsidiary have to be

translated into the home currency for the purpose of finalizing the accounts for any given period.

If a firm has subsidiaries in many countries, the fluctuations in exchange rate will make the

assets valuation different in different periods. The changes in asset valuation due to fluctuations

in exchange rate will affect the group‘s asset, capital structure ratios, profitability ratios,

solvency ratios, etc.

FASB 52 specifies that US firms with foreign operations should provide information disclosing

effects of foreign exchange rate changes on the enterprise consolidated financial statements and

equity.

The following procedure has been followed:

Assets and liabilities are to be translated at the current rate that is the rate prevailing at

the time of preparation of consolidated statements. All revenues and expenses are to be translated at the actual exchange rates prevailing on

the date of transactions. For items occurring numerous times weighted averages for

exchange rates can he used.

Translation adjustments (gains or losses) are not to be charged to the net income of the

reporting company. Instead these adjustments are accumulated and reported in a separate




32

account shown in the shareholders equity section of the balance sheet, where they remain

until the equity is disposed off.

Measurement of Translation Exposure

Translation exposure = (Exposed assets - Exposed liabilities) x (Change in the exchange rate)

Example

Current exchange rate: $1 = Rs. 60.10

Assets - Liabilities

In the next period, the exchange rate fluctuates to $1 = Rs 47.50Assets Liabilities

Decrease in Book Value of the assets is $ 1,684. (I.e. $ 2,54,576- $2,52,892)

The various steps involved in measuring translation exposure are:

First, Determine functional currency.

Second, translate using temporal method recording gains/ losses in the income: statement

as realized.

Third, Translate using current method recording gains/losses in the balance sheet as

realized.

Finally, consolidate into parent company financial statements.

2. Transaction Exposure:

This exposure refers to the extent to which the future value of firm‘s domestic cash flow

is affected by exchange rate fluctuations. It arises from the possibility of incurring foreign

exchange gains or losses on transaction already entered into and denominated in a foreign

currency.

Initial value ($1 = Rs. 60.10) Present value ($1 = Rs. 47.10)

Rs. 15,300,000 Rs. 15,300,000

$ 2,54,576 $ 2,54,576

Initial value ($1 = Rs. 60.10) Present value ($1 = Rs. 60.50)

Rs. 15,300,000 Rs. 15,300,000

$ 2,54,576 $2,52,892




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The degree of transaction exposure depends on the extent to which a firm‘s transactions

are in foreign currency. For example, the transaction in exposure will be more if the firm has

more transactions in foreign currency.

According to FASB 52 all transaction gains and losses should be accounted for and

included‘ in the equity‘s net income for the reporting period. Unlike tran slation gains and loses

which require only a bookkeeping adjustment, transaction gains and losses are realized as soon

as exchange rate changes. The exposure could be interpreted either from the standpoint of the

affiliate or the parent company. An entity cannot have an exposure in the currency in which its

transactions are measured.

Example of Transaction Exposure - NHS Computers

An Indian company, NHS Computers is involved in manufacturing of computer machines

and spare parts. It imports raw materials from USA and exports the machinery to USA and

receives the income in dollars. Machinery has to be imported on regular basis. As per the

definition of exposure, NHS Computers is exposed to currency risk. In this case, the company is

importing raw materials for which it is paying the money in dollars and while exporting it is

receiving the money in dollars. It is exposed to currency risk in the form of transaction exposure,

i.e. Dollar/Rupee exchange rate risk is prevalent only between the periods when it needs to pay

for its imports and when it realizes the dollars for its exports and the difference between the two

amounts.

Thus, a company is exposed to currency risk when exchange rate movements directly

affect its cash flows. It is equally important for the company to know the types of risk it is

exposed to and the origins of risk.

In the Indian context, let us assume that all the restrictions related to imports and exports

have been removed by the Government of India. Suppose a company is involved in the

manufacturing of electronic goods with indigenous technology and is selling the products in

India. It has no dealing whatsoever with any other countries. It is getting threatened by an

American firm, which is selling the same goods with a lesser price and superior technological

features. The company in this case is again exposed to the Dollar/Rupee exchange rate in spite of

not having any exposure whatsoever in foreign currencies.




34

The Solution

In the above example, if it were a British firm, the extent of Indian firm‘s exposure is

dependent on Dollar/Pound exchange rate and Dollar/Rupee exchange rate. The company should

first establish direct linkages between direct movements and cash flow destabilization before it

attempts to control currency risks. In this case, the Indian firm has exposure because of its

structural nature. It will be exposed to this risk as long as it is in the manufacturing of the

products which it is presently involved in. If it changes the existing product mix it can eliminate

the risk arising out of the Dollar/Rupee and Dollar/ Pound exchange rates on its cash flows.

Structural risk is a recurring one and is long term in nature. A long-term risk can be broken into

slices and can be controlled temporarily but it will not give a permanent solution.

3. Economic Exposure

Economic exposure refers to the degree to which a firm‘s present value of future cash

flows can be influenced by exchange rate fluctuations. Economic exposure is a more managerial

concept than an accounting concept. A company can have an economic exposure to say

Pound/Rupee rates even if it does not have any transaction or translation exposure in the British

currency. This situation would arise when the company‘s competitors are using British imports.

If the Pound weakens, the company loses its competitiveness (or vice versa if the Pound becomes

strong). Thus, economic exposure to an exchange rate is the risk that a variation in the rate will

affect the company‘s competitive position in the market and hence its profits. Further, ec onomic

exposure affects the profitability of the company over a longer time span than transaction or

translation exposure. Under the Indian exchange control, economic exposure cannot be hedged

while both transaction and translation exposure can-be hedged.




35

10. RISK MANAGEMENT

Traditional Risk Management Tools

Money Market Hedge

Transaction exposure can also be hedged by lending and borrowing in the domestic and

foreign money markets — that is, money market hedge. Generally speaking, the firm may

borrow (lend) in foreign currency to hedge its foreign currency receivables (payables), thereby

matching its assets and liabilities in the same currency.

Let us say that Bombardier of Montreal exports commuter aircraft to Austrian Airlines. A

payment of €10 million will be received by Bombardier in one year. Money market and foreign

exchange rates relevant to the financial contracts are:

Canadian interest rate 6.10 % per annum

European interest rate 9.00 % per annum

S8ot exchange rate $1.50/€

Forward exchange rate $1.46/€

Using the example presented above, Bombardier can eliminate the exchange exposure

arising from the European sale by first borrowing in euros, then converting the loan proceeds

into Canadian dollars, which then can be invested at the dollar interest rate. On the maturity date

of the loan, Bombardier will use the euro receivable to pay off the euro loan. If Bombardier

borrows a particular euro amount so that the maturity value of this loan becomes exactly equal to

the euro receivable from the European sale, Bombardier‘s net euro exposure is reduced to zero,

and Bombardier will receive the future maturity value of the dollar investment.

The first important step in money market hedging is to determine the amount of euros to

borrow. Since the maturity value of borrowing should be the same as the euro receivable, the

amount to borrow can be computed as the discounted present value of the euro receivable, that is,

€10 million/(1.09) = €9,174,312. When Bombardier borrows €9,174,312, it then has to repay €10

million in one year, which is equivalent to its euro receivable. The step-by-step procedure of

money market hedging can be illustrated as follows:

Step 1: Borrow €9,174,312 in Europe

Step 2: Convert €9,174,312 into $13,761,468 at the current spot exchange rate of C$1.50/€




36

Step 3: Invest C$13,761,468 in Canadian Treasury bills.

Step 4: Collect €10 million from Austrian Airways and use it to repay the euro loan.

Step 5: Receive the maturity value of the dollar investment, that is, C$14,600,918 =

C$13,761,468 (1.061), which is the guaranteed Canadian dollar, proceeds from the European

sale.

The table shows that the net cash flow is zero at the present time, implying that, apart

from possible transaction costs, the money market hedge is fully self-financing. The table also

clearly shows how the 10 million euro receivable is exactly offset by the 10 million euro payable

(created by borrowing), leaving a net cash flow of C$14,600,918 on the maturity date.

Transaction Current Cash Flow Cash Flow at Maturity

1.Borrow Euros €9,174,312 - €10,000,000

2.Buy dollar spot with euro C$13,761,468

- €9,174,312

3. Invest in Canadian TBs - C$13,761,468 C$14,600,918

4. Collect euro receivables €10,000,000

Net Cash Flow 0 C$14,600,918

Currency Risk Sharing

It is an agreement by the parties to a transaction to share the currency risk associated with

the transaction. The arrangement involves a customized hedge contract embedded in the

underlying transaction. The ratio of risk share and other terms are agreed at the time of entering

into the agreement.

Insurance

Insurance is a form of risk management primarily used to hedge against the risk of a contingent

loss. Insurance is defined as the equitable transfer of the risk of a loss, from one entity to another,

in exchange for a premium, and can be thought of as a guaranteed small loss to prevent a large,

possibly devastating loss. The insurance rate is a factor used to determine the amount to be

charged for a certain amount of insurance coverage, called the premium.




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11. DERIVATIVE – THE RISK MANAGEMENT TOOL

Derivatives are financial contracts, or financial instruments, whose values are derived

from the value of something else (known as the underlying). The underlying on which a

derivative is based can be an asset (e.g., commodities, equities (stocks), residential mortgages,

commercial real estate, loans, bonds), an index (e.g., interest rates, exchange rates, stock market

indices, consumer price index (CPI) — see inflation derivatives), or other items (e.g., weather

conditions, or other derivatives). Credit derivatives are based on loans, bonds or other forms of

credit.

The main types of derivatives are forwards, futu res, options, and swaps .

Derivatives can be used to mitigate the risk of economic loss arising from changes in the

value of the underlying. This activity is known as hedging. Alternatively, derivatives can be

used by investors to increase the profit arising if the value of the underlying moves in the

direction they expect. This activity is known as speculation.

The use of derivatives also has its benefits:

Derivatives facilitate the buying and selling of risk , and thus have a positive impact on

the economic system. Although someone loses money while someone else gains money

with a derivative, under normal circumstances, trading in derivatives should not

adversely affect the economic system because it is not zero sums in utility.

Former Federal Reserve Board chairman Alan Greenspan had commented in 2003 that he

believed that the use of derivatives has softened the impact of the economic downturn

at the beginning of the 21st century.

Let us now try to understand how some of the main types of derivatives evolved and how they

function.




38

11.1 Forward Contract

A forward contract is an agreement for the future delivery of a specified amount of

goods at a predetermined price and date.

The forward price of such a contract is commonly contrasted with the spot price, which is

the price at which the asset changes hands on the spot date. The difference between the spot and

the forward price is the forward premium or forward discount, generally considered in the form

of a profit, or loss, by the purchasing party.

This process is used in financial operations to hedge risk, as a means of speculation, or to

allow a party to take advantage of a quality of the underlying instrument which is time-sensitive.

Forward contracts are usually not standardized as futures are; they are traded over the

counter directly between buyer and seller. Forward contracts are settled at the expiration of the

contract. Forward contracts are meant for delivery. This delivery is usually in the form of cash

settlement as opposed to physical delivery. Credit risk is inherent in forwards. Since either party

of a forward contract can default on their obligation to take delivery or to deliver an asset,

forwards are more risky.

Example of how the payoff of a forward contract works

Suppose that Bob wants to buy a house in one year's time. At the same time, suppose that

Andy currently owns a $100,000 house that he wishes to sell in one year's time. Both parties

could enter into a forward contract with each other. Suppose that they both agree on the sale

price in one year's time of $104,000 (more below on why the sale price should be this amount).

Andy and Bob have entered into a forward contract. Bob, because he is buying the underlying, is

said to have entered a long forward contract. Conversely, Andy will have the short forward

contract.

At the end of one year, suppose that the current market valuation of Andy's house is

$110,000. Then, because Andy is obliged to sell to Bob for only $104,000, Bob will make a

profit of $6,000 as Bob can buy from Andy for $104,000 and immediately sell to the market for




39

$110,000. Bob has made the difference in profit. In contrast, Andy has made a potential loss of

$6,000, and an actual profit of $4,000.

Example of how forward prices should be agreed upon

Continuing on the example above, suppose now that the initial price of Andy's house is

$100,000 and that Bob enters into a forward contract to buy the house one year from today. But

since Andy knows that he can immediately sell for $100,000 and place the proceeds in the bank,

he wants to be compensated for the delayed sale. Suppose that the risk free rate of return R (the

bank rate) for one year is 4%. Then the money in the bank would grow to $104,000, risk free. So

Andy would want at least $104,000 one year from now for the contract to be worthwhile for him

- the opportunity cost will be covered.

Example of how forward helps Corporate in managing foreign exchange risk

` Suppose an Indian firm as got an export order of USD 1million which will be received

once the goods reach the destination i.e. payment at sight. The Indian firm will take six months

to execute the order. Suppose the present USD/INR: 50.00/50.20. Let‘s say that the six month

forward rate available is USD/INR: 51.50/51.65. If the company books the forward by paying

some premium, after six months when it will get the payment it cold convert it into INR at an

exchange rate of 1$ = INR51.50 irrespective of the exchange rate prevalent at that time. If after

six months the exchange rate is USD/INR: 49.00/49.10 the company makes a profit of INR 2.50

per USD (i.e. 51.50 – 49.00) less the premium paid and is protected from the fluctuations of the

market rate. However after six months if the exchange rate is USD/INR: 53.00/53.35 the

company would make a notional loss of INR 1.50 per USD (i.e. 53.00-51.50) plus the premium

paid. Thus a forward agreement helps the company to make profit and protects it from downside

movement of the exchange rate in the future it also prevents the firm from getting profits in case

of upward movement of the exchange rates.




40

11.2 Futures Contract

With the evolution of the derivatives market people wanted a product which could

provide them a guaranteed amount/product in exchange for some amount /product in the future

thereby eliminating the risk of loss in the future due to changes in the market conditions. This led

to the origin of Futures.

Trading on commodities began in Japan in the 18th century with the trading of rice and

silk, and similarly in Holland with tulip bulbs. Trading in the US began in the mid 19th century,

when central grain markets were established and a marketplace was created for farmers to bring

their commodities and sell them either for immediate delivery (also called spot or cash market)

or for forward delivery. These forward contracts were private contracts between buyers and

sellers and became the forerunner to today's exchange-traded futures contracts.

Futures contract on financial instruments was introduced in the 1970s by the Chicago

Mercantile Exchange (CME) and these instruments became hugely successful and quickly

overtook commodities futures in terms of trading volume and global accessibility to the markets.

This innovation led to the introduction of many new futures exchanges worldwide, such as the

London International Financial Futures Exchange in 1982 (now Euronext.liffe), Deutsche

Terminbörse (now Eurex) and the Tokyo Commodity Exchange (TOCOM). Today, there aremore than 75 futures exchanges worldwide.

A futures contract is a standardized contract, traded on a futures exchange, to buy or sell

a standardized quantity of a specified commodity of standardized quality (which, in many cases,

may be such non-traditional "commodities" as foreign currencies, commercial or government

paper [e.g., bonds], or "baskets" of corporate equity ["stock indices"] or other financial

instruments) at a certain date in the future, at a price (the futures price) determined by the forces

of supply and demand of the product on the exchange at the time of the purchase or sale of the

contract. They are contracts to buy or sell at a specific date in the future at a price specified

today. The future date is called the delivery date or final settlement date. The official price of

the futures contract at the end of a day's trading session on the exchange is called the settlement

price for that day of business on the exchange.




41

A futures contract gives the holder the obligation to make or take delivery under the

terms of the contract. Both parties of a "futures contract" must fulfill the contract on the

settlement date. The seller delivers the underlying asset to the buyer, or, if it is a cash-settled

futures contract, then cash is transferred from the futures trader who sustained a loss to the one

who made a profit. To exit the commitment prior to the settlement date, the holder of a futures

position has to offset his/her position by either selling a long position or buying back (covering)

a short position, effectively closing out the futures position and its contract obligations.

Futures contracts or simply futures (not future contract or future) are always traded on an

exchange. The exchange's clearinghouse acts as counterparty on all contracts, sets margin

requirements, and crucially also provides a mechanism for settlement.

Margining

Futures are margined daily to the daily spot price of a forward with the same agreed-upon

delivery price and underlying asset (based on mark to market ). Thus futures have lesser credit

risk as compared to forwards. This means that there will usually be very little additional money

due on the final day to settle the futures contract i.e. only the final day's gain or loss, not the

lifetime gain or loss.

In addition, the daily futures-settlement failure risk is borne by an exchange, rather than

an individual party, limiting credit risk in futures.

Consider a futures contract with a $100 price: Let's say that on day 50, a futures contract

with a $100 delivery price (on the same underlying asset as the future) costs $88. On day 51, that

futures contract costs $90. This means that the mark-to-market would require the holder of one

side of the future to pay $2 on day 51 to track the changes of the forward price ("post $2 of

margin"). This money goes, via margin accounts, to the holder of the other side of the future.

Thus, while under mark to market accounting, for both assets the gain or loss accrues

over the holding period, for a futures the gain or loss is realized daily, while for a forward

contract the gain or loss remains unrealized until expiry.




42

Note that, due to the path dependence of funding in futures the total gain or loss of the

trade depends not only on the value of the underlying asset at expiry, but also on the path of

prices on the way.

Margin

To minimize credit risk to the exchange, traders must post a margin or a performance

bond, typically 5%-15% of the contract's value. Margin requirements are waived or reduced in

some cases for hedgers who have physical ownership of the covered commodity or spread

among traders who have offsetting contracts balancing their position.

Clearing margin: These are financial safeguards to ensure that companies or corporations

perform on their customers' open futures contracts. Clearing margins are distinct from customer

margins that individual buyers and sellers of futures contracts are required to deposit with

brokers.

Customer margin: Within the futures industry, financial guarantees are required of both buyers

and sellers of futures contracts to ensure fulfillment of contract obligations. Futures Commission

Merchants are responsible for overseeing customer margin accounts. Margins are determined on

the basis of market risk and contract value. It is also referred to as performance bond margin.

Initial margin: It is the money required to open a derivatives position (in futures or forex). It is

a security deposit to ensure that traders have sufficient funds to meet any potential loss from a

trade. If a position involves an exchange-traded product, the amount or percentage of initial

margin is set by the exchange concerned.

In case of loss or if the value of the initial margin is being eroded, the broker will make a

margin call in order to restore the amount of initial margin available. Often referred to as

―variation margin‖, margin called for this reason is usually done on a daily basis, however, in

times of high volatility a broker can make a margin call or calls intra-day.

Calls for margin are usually expected to be paid and received on the same day. If not, the

broker has the right to close sufficient positions to meet the amount called by way of margin.




43

After the position is closed-out the client is liable for any resulting deficit in the client‘s account.

Some Exchanges also use the term ―maintenance margin‖, which in effect defines, by how much

the value of the initial margin can reduce before a margin call is made. However, most brokers

only use the term ―initial margin‖ or ―variation margin‖. The Initial Margin requirement is

established by the Futures exchange

A futures account is marked to market daily. If the margin drops below the margin

maintenance requirement established by the exchange listing the futures, a margin call will be

issued to bring the account back up to the required level.

Maintenance margin: A set minimum margin per outstanding futures contract that a customer

must maintain in his margin account.

Margin-equity ratio: It is a term used by speculators, representing the amount of their trading

capital that is being held as margin at any particular time. The low margin requirements of

futures results in substantial leverage of the investment. However, the exchanges require a

minimum amount that varies depending on the contract and the trader. The broker may set the

requirement higher, but may not set it lower. A trader, of course, can set it above that, if he

doesn't want to be subject to margin calls.

Performance bond margin: It is the amount of money deposited by both a buyer and seller of a

futures contract to ensure performance of the term of the contract. Margin in commodities is not

a payment of equity or down payment on the commodity itself, but rather it is a security deposit.

Return on margin(ROM): It is often used to judge performance because it represents the gain

or loss compared to the exchange‘s perceived risk as reflected in required margin. ROM may be

calculated (realized return) / (initial margin).

Standardization

Futures contracts ensure their liquidity by being highly standardized, usually by specifying:

The underlying asset or instrument. This could be anything from a barrel of crude oil to a

short term interest rate.




44

The type of settlement, either cash settlement or physical settlement.

The amount and units of the underlying asset per contract. This can be the notional

amount of bonds, a fixed number of barrels of oil, units of foreign currency, the notional

amount of the deposit over which the short term interest rate is traded, etc.

The currency in which the futures contract is quoted.

The grade of the deliverable. In the case of bonds, this specifies which bonds can be

delivered. In the case of physical commodities, this specifies not only the quality of the

underlying goods but also the manner and location of delivery.

The delivery month.

The last trading date.

Other details such as the commodity tick (a minimum amount that the price of a

commodity can fluctuate upward or downward).

Settlement

Settlement is the act of consummating the contract, and can be done in one of two ways, as

specified per type of futures contract:

Physical delivery - The amount specified of the underlying asset of the contract is

delivered by the seller of the contract to the exchange, and by the exchange to the buyersof the contract. Physical delivery is common with commodities and bonds. In practice, it

occurs only on a minority of contracts. Most are cancelled out by purchasing a covering

position i.e. buying a contract to cancel out an earlier sale (covering a short), or selling a

contract to liquidate an earlier purchase (covering a long).

Cash settlement - A cash payment is made, based on the underlying reference rate, such

as the closing value of a stock market index. A futures contract might also opt to settle

against an index based on trade in a related spot market.

Expiry is the time and the day of a particular delivery month when a futures contract stops

trading and the final settlement price for that contract is obtained. For many equity index and

interest rate futures contracts this happens on the third Friday of the trading month. On this day

the t+1 futures contract becomes the t futures contract. For example, for most Chicago




45

Mercantile Exchange contracts, at the expiration of the December contract, the March futures

become the nearest contract. This is an exciting time for arbitrage desks, which try to make quick

profits during the short period (perhaps 30 minutes) during which the underlying cash price and

the futures price sometimes struggle to converge. At this moment the futures and the underlying

assets are extremely liquid and any disparity between an index and an underlying asset is quickly

traded by arbitrageurs.

Who Trades In Futures?

Futures traders can traditionally be placed in one of two groups: hedgers, who have an

interest in the underlying commodity and are seeking to hedge out the risk of price changes; and

speculators, who seek to make a profit by predicting market moves and buying a commodity "on

paper" for which they have no practical use. Hedgers typically include producers and consumers

of a commodity.

For example, in traditional commodity markets, farmers often sell futures contracts for

the crops and livestock they produce to guarantee a certain price, making it easier for them to

plan. Similarly, livestock producers often purchase futures to cover their feed costs, so that they

can plan on a fixed cost for feed. In modern (financial) markets, "producers" of interest rate

swaps or equity derivative products will use financial futures or equity index futures to reduce orremove the risk on the swap.

The social utility of futures markets is considered to be mainly in the transfer of risk, and

increase liquidity between traders with different risk and time preferences, from a hedger to a

speculator.

Currency Futures

A currency futures, also FX futures or foreign exchange futures, is a futures contract

to exchange one currency for another at a specified date in the future at a price (exchange rate)

that is fixed on the purchase date. Typically, one of the currencies is the US dollar. The price of a

future is then in terms of US dollars per unit of other currency. This can be different from the

standard way of quoting in the spot foreign exchange markets. The trade unit of each contract is




46

a certain amount of other currency, for instance €125,000. Most contracts have physical delivery,

so for those held at the end of the last trading day, actual payments are made in each currency.

However, most contracts are closed out before that. Investors can close out the contract at any

time prior to the contract's delivery date.

Currency futures were first created at the Chicago Mercantile Exchange (CME) in 1972,

less than one year after the system of fixed exchange rates was abandoned along with the gold

standard. Some commodity traders at the CME did not have access to the inter-bank exchange

markets in the early 1970s, when they believed that significant changes were about to take place

in the currency market. They established the International Monetary Market (IMM) and launched

trading in seven currency futures on May 16, 1972. Today, the IMM is a division of CME.

Currently most of these are traded electronically. Other futures exchanges that trade currencyfutures are Euronext.liffe and Tokyo Financial Exchange.

• Uses of Currency Futures

Hedging: Investors use these futures contracts to hedge against foreign exchange risk. If an

investor will receive a cash flow denominated in a foreign currency on some future date, that

investor can lock in the current exchange rate by entering into an offsetting currency futures

position that expires on the date of the cash-flow.

For example, A is a US- based investor who will receive €1,000,000 on Dec 1. The

current exchange rate implied by the futures is $1.2/€. ‗A‘ can lock in this exchange rate by

selling €1,000,000 worth of futures contracts expiring on December 1. That way, A is guaranteed

an exchange rate of $1.2/€ regardless of exchange rate fluctuations in the meantime.

Speculation: Currency futures can also be used to speculate and, by incurring a risk, attempt to

profit from rising or falling exchange rates.

For example, B buys 10 September CME Euro FX Futures, at $1.2713/€. At the end of

the day, the futures close at $1.2784/€. The change in price is $0.0071/€. As each contract is over

€125,000, and he has 10 contracts, his profit is $8,875. As with any future, this is paid to him

immediately.




47

11.3 Options

In futures one could reduce the downside of risk and one would be happy if on the

settlement date the market price is equal or less than the settlement price. However if the market

price is more than the settlement price on the settlement date you feel sad because if you had not

entered into the futures contract you could have more profits. This led to the evolution of

options.

An option is a contract between a buyer and a seller that gives the buyer the right, but not

the obligation to buy or to sell a particular asset (the underlying asset) at a later time at an agreed

price. In return for granting the option, the seller collects a payment (the premium) from the

buyer. A call option gives the buyer the right to buy the underlying asset; a put option gives the

buyer of the option the right to sell the underlying asset. If the buyer chooses to exercise this

right, the seller is obliged to sell or buy the asset at the agreed price. The buyer may choose not

to exercise the right and let it expire. The underlying asset can be a piece of property, or shares

of stock or some other security, such as, among others, a futures contract.

For example, buying a call option provides the right to buy a specified quantity of a

security at a set agreed amount, known as the 'strike price' at some time on or before expiration,

while buying a put option provides the right to sell. Upon the option holder's choice to exercisethe option, the party who sold, or wrote, the option must fulfill the terms of the contract

Exchange-traded options form an important class of options which have standardized

contract features and trade on public exchanges, facilitating trading among independent parties.

Over-the-counter options are traded between private parties, often well-capitalized institutions

that have negotiated separate trading and clearing arrangements with each other.

Types of options

The primary types of Options are:

Exchange traded options (also called "listed options"): They are a class of exchange

traded derivatives. Exchange traded options have standardized contracts, and are settled




48

through a clearing house with fulfillment guaranteed by the credit of the exchange. Since

the contracts are standardized, accurate pricing models are often available. Exchange

traded options include: stock options, commodity options, bond options and other interest

rate options index (equity) options, and options on futures contracts

Over-the-counter options (OTC options, also called "dealer options"): They are traded

between two private parties, and are not listed on an exchange. The terms of an OTC

option are unrestricted and may be individually tailored to meet any business need. In

general, at least one of the counterparties to an OTC option is a well-capitalized

institution. Option types commonly traded over the counter include: interest rate options,

currency cross rate options, and options on swaps.

Intrinsic Value and Time Value

The intrinsic value (or "monetary value") of an option is the value of exercising it now.

Thus if the current (spot) price of the underlying security is above the agreed (strike) price, a call

has positive intrinsic value (and is called "in the money‖).

The time value of an option is a function of the option value less the intrinsic value. It

equates to uncertainty in the form of investor hope. It is also viewed as the value of not

exercising the option immediately.

ATM: At-the-money: An option is at-the-money if the strike price is the same as the

spot price of the underlying security on which the option is written. An at-the-money

option has no intrinsic value, only time value.

ITM: In-the-money:An in-the-money option has positive intrinsic value as well as

time value. A call option is in-the-money when the strike price is below the spot price. A

put option is in-the-money when the strike price is above the spot price.

OTM: Out-of-the-money:An out-of-the-money option has no intrinsic value. A call

option is out-of-the-money when the strike price is above the spot price of the underlying

security. A put option is out-of-the-money when the strike price is below the spot price.




49

Call Option Put Option

Spot price = Strike price At-the-Money Spot price = Strike price

Spot price > Strike price In-the-Money Spot price < Strike price

Spot price < Strike price Out- of-the-Money Spot price > Strike price

Option Styles

1. A European option may be exercised only at the expiry date of the option, i.e. at a

single pre-defined point in time.

2. An American option on the other hand may be exercised at any time before the expiry

date.

For both, the pay-off - when it occurs - is via:

Max [(S – K), 0], for a call option

Max [(K – S), 0], for a put option:

(Where K is the Strike price and S is the spot price of the underlying asset)

Option contracts traded on futures exchanges are mainly American-style, whereas those

traded over-the-counter are mainly European.

Where an American and a European option are otherwise identical (having the same

strike price, etc.), the American option will be worth at least as much as the

European (which it entails). If it is worth more, then the difference is a guide to the

likelihood of early exercise.

To account for the American's higher value there must be some situations in which it is

optimal to exercise the American option before the expiration date. This can arise in several

ways, such as:




50

An in the money (ITM) call option on a stock is often exercised just before the stock pays

a dividend which would lower its value by more than the option's remaining time value

A deep ITM currency option (FX option) where the strike currency has a lower interest

rate than the currency to be received will often be exercised early because the time value

sacrificed is less valuable than the expected depreciation of the received currency against

the strike.

A put option on gold will be exercised early when deep ITM, because gold tends to hold

its value whereas the currency used as the strike is often expected to lose value through

inflation if the holder waits until final maturity to exercise the option (they will almost

certainly exercise a contract deep ITM, minimizing its time value).

Option Strategies

An option strategy is implemented by combining one or more option positions and

possibly an underlying stock position. Options strategies can favor movements in the underlying

stock that are bullish, bearish or neutral. The option positions used can be long and/or short

positions in calls and/or puts at various strikes.

Bullish Trading Strategies: Bullish strategies in options trading are employed when the options

trader expects the underlying stock price to move upwards. It is necessary to assess how high

the stock price can go and the timeframe in which the rally will occur in order to select the

optimum trading strategy.

Bearish Trading Strategies: Bearish strategies in options trading are employed when the

options trader expects the underlying stock price to move downwards. It is necessary to assess

how low the stock price can go and the timeframe in which the decline will happen in order toselect the optimum trading strategy.

Neutral Trading Strategies: Neutral options trading strategies are employed when the options

trader does not know whether the underlying stock price will rise or fall. Also known as non-

http://www.theoptionsguide.com/underlying-security.aspx











51

directional strategies, they are so named because the potential to profit does not depend on

whether the underlying stock price will go upwards or downwards. Rather, the correct neutral

strategy to employ depends on the expected volatility of the underlying stock price.

Let us now have a look at some of the option strategies in detail

1. Straddle:

In finance, a straddle is an investment strategy involving the purchase or sale of

particular option derivatives that allows the holder to profit based on how much the price of the

underlying security moves, regardless of the direction of price movement. The purchase of

particular option derivatives is known as a long straddle, while the sale of the option derivativesis known as a short straddle.

Long Straddle

A long straddle involves going long, i.e., purchasing, both a call option and a put option.

The two options are bought at the same strike price and expire at the same time. The owner of a

long straddle makes a profit if the underlying price moves a long way from the strike price, either

above or below. Thus, an investor may take a long straddle position if he thinks the market ishighly volatile, but does not know in which direction it is going to move. This position is a

limited risk, since the most a purchaser may lose is the cost of both options. At the same time,

there is unlimited profit potential.

For example, company XYZ is set to release its quarterly financial results in two weeks.

A trader believes that the release of these results will cause a large movement in the price of

XYZ's stock, but does not know whether the price will go up or down. He can enter into a long

straddle, where he gets a profit no matter which way the price of XYZ stock moves, if the price

changes enough either way. If the price goes up enough, he uses the call option and ignores the

put option. If the price goes down, he uses the put option and ignores the call option. If the price

does not change enough, he loses money, up to the total amount paid for the two options.




52

The formula for calculating profit is given below:

Maximum Profit = Unlimited

Profit Achieved When Price of Underlying > (Strike Price of Long Call + Net Premium

Paid) OR When Price of Underlying < (Strike Price of Long Put - Net Premium Paid)

Profit = Price of Underlying - Strike Price of Long Call - Net Premium Paid OR Strike

Price of Long Put - Price of Underlying - Net Premium Paid

The formula for calculating maximum loss is given below:

Max Loss = Net Premium Paid + Commissions Paid

Max Loss Occurs When Price of Underlying is equal to Strike Price of Long Call and

Strike Price of Long Put

Breakeven Point(s)

There are 2 break-even points for the long straddle position. The breakeven points can be

calculated using the following formulae.

Upper Breakeven Point = Strike Price of Long Call + Net Premium Paid

Lower Breakeven Point = Strike Price of Long Put - Net Premium Paid

Short Straddle

A short straddle is a non-directional options trading strategy that involves simultaneously

selling a put and a call of the same underlying security, strike price and expiration date. The

profit is limited to the premiums of the put and call, but it is risky if the underlying security's

price goes up or down much. The deal breaks even if the intrinsic value of the put or the call

equals the sum of the premiums of the put and call. This strategy is called "non-directional"

because the short straddle profits when the underlying security changes little in price before the

expiration of the straddle. A short straddle position is highly risky, because the potential loss is

unlimited, whereas profitability is limited to the premium gained by the initial sale of the

options.




53

Illustration:

Stock Price at

Expiry

Exercise

Call

Exercise

Put

Profit/Loss

(Long Position)

Profit/Loss

(Short Position)

200 No Yes 70 -70

220 No Yes 50 -50

240 No Yes 30 -30

260 No Yes 10 -10

270 No Yes 0 0

280 No Yes -10 10

300 Yes Yes -30 30

320 Yes No -10 10

330 Yes No 0 0

340 Yes No 10 -10

360 Yes No 30 -30

380 Yes No 50 -50

400 Yes No 70 -70

Long Position

• Buy March 300 Call @ Rs. 10

• Buy March 300 Put @ Rs. 20

Short Position:

• Sell March 300 Call @ Rs. 10

• Sell March 300 Put @ Rs. 20




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Long Straddle Payoff Diagram

It can be seen that in the person who is taking a long position will obtain break even

when the price of the put option at expiry is Rs.270 or when the price of the call option at expiry

is Rs.330. The maximum loss is restricted to Rs.30 which is the premium paid. The profit

potential is unlimited.

Short Straddle Payoff Diagram

It can be seen that in the person who is taking a short position will obtain break even

when the price of the put option at expiry is Rs.270 or when the price of the call option at expiry

is Rs.330. The maximum profit is restricted to Rs.30 which is the premium received. The loss

potential is unlimited.

-40

-20

0

20

40

60

80

180 200 220 240 260 280 300 320 340 360 380 400 420

-80

-60

-40

-20

0

20

40

180 200 220 240 260 280 300 320 340 360 380 400 420




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2. Strangle:

Long Strangle

The long strangle, also known as buy strangle is a neutral strategy in options trading that

involve the simultaneous buying of a slightly out-of-the-money put and a slightly out-of-the-

money call of the same underlying stock and expiration date. The owner of a long strangle

makes a profit if the underlying price moves a long way from the strike price, either above or

below. Thus, an investor may take a long strangle position if he thinks the market is highly

volatile, but does not know in which direction it is going to move. This position is a limited risk,

since the most a purchaser may lose is the cost of both options. At the same time, there is

unlimited profit potential.

The formula for calculating profit is given below:

Maximum Profit = Unlimited

Profit Achieved When Price of Underlying > (Strike Price of Long Call + Net Premium

Paid) OR When Price of Underlying < (Strike Price of Long Put - Net Premium Paid )

Profit = Price of Underlying - Strike Price of Long Call - Net Premium Paid OR Strike

Price of Long Put - Price of Underlying - Net Premium Paid

The formula for calculating maximum loss is given below:

Max Loss = Net Premium Paid + Commissions Paid

Max Loss Occurs When Price of Underlying is in between Strike Price of Long Call and

Strike Price of Long Put

Breakeven Point(s)

There are 2 break-even points for the long strangle position. The breakeven points can be

calculated using the following formulae.

Upper Breakeven Point = Strike Price of Long Call + Net Premium Paid

Lower Breakeven Point = Strike Price of Long Put - Net Premium Paid




http://www.theoptionsguide.com/expiration-date.aspx








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Short Strangle

The converse strategy to the long strangle is the short strangle. Short strangle spreads

are used when little movement is expected of the underlying stock price.

Illustration:

Suppose that the spot price of the underlying asset of the option is Rs.320

Stock Price at

Expiry

Exercise

Call

Exercise

Put

Profit/Loss

(Long Position)

Profit/Loss

(Short Position)

220 No Yes 50 -50

240 No Yes 30 -30

260 No Yes 10 -10

270 No Yes 0 0

280 No Yes -10 10

300 No Yes -30 30

320 No No -30 30

330 No No -30 30

340 Yes No -30 30

360 Yes No -10 10

370 Yes No 0 0

380 Yes No 10 -10

400 Yes No 30 -30

420 Yes No 50 -50

Long Position

• Buy March 340 Call @ Rs. 20

• Buy March 300 Put @ Rs. 10

Short Position

• Sell March 340 Call @ Rs. 20

• Sell March 300 Put @ Rs. 10

http://www.theoptionsguide.com/short-strangle.aspx






57

Long Strangle Payoff Diagram

Break even is reached when price at expiry is Rs. 270 or Rs.370

Short Strangle Payoff Diagram

-40

-30

-20

-10

0

10

20

30

40

50

60

200 220 240 260 280 300 320 340 360 380 400 420 440

-60

-50

-40

-30

-20

-10

0

10

20

30

40

200 220 240 260 280 300 320 340 360 380 400 420 440




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11.4 SWAPS

An interest rate swap is a derivative in which one party exchanges a stream of interest

payments for another party's stream of cash flows. Interest rate swaps can be used by hedgers to

manage their fixed or floating assets and liabilities. They can also be used by speculators to

replicate unfunded bond exposures to profit from changes in interest rates. Interest rate swaps are

very popular and highly liquid instruments.

Market size

The Bank for International Settlements reports that interest rate swaps are the largest

component of the global OTC derivative market. The notional amount outstanding as of

December 2006 in OTC interest rate swaps was $229.8 trillion, up $60.7 trillion (35.9%) from

December 2005. These contracts account for 55.4% of the entire $415 trillion OTC derivative

market. As of Dec 2008 the number rose to 4896 trillion according to the same source.

Structure

In an interest rate swap, each counter party agrees to pay either a fixed or floating rate

denominated in a particular currency to the other counterparty. The fixed or floating rate is

multiplied by a notional principal amount (say, USD 1 million). This notional amount is

generally not exchanged between counterparties, but is used only for calculating the size of cash

flows to be exchanged.

The most common interest rate swap is one where one counterparty A pays a fixed rate

(the swap rate) to counterparty B, while receiving a floating rate (usually pegged to a reference

rate such as LIBOR).

Illustration 1:

A pays variable rate to B (A receives fixed rate)

B pays fixed rate to A (B receives variable rate).

Let us suppose that A can raise funds in the fixed and floating markets at 14% and

LIBOR + 0.25% respectively while B can raise funds in fixed and floating market at 15% and




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LIBOR + 0.50% respectively. These rates are applicable for a USD 1 million borrowing. If B is

interested in borrowing fixed interest rate and A is interested in borrowing in floating rates.

Party Objective Fixed Interest Rate Floating Interest Rate

A Floating rate 14% LIBOR + 0.25%

B Fixed rate 15% LIBOR + 0.75%

It can be seen that the cost of borrowing for A is less than B in both markets. This

difference is called quality spread and can be quantified for both fixed and floating rate market as

below

Fixed Market: 15% - 14% = 1%

Floating Market: (LIBOR + 0.75%) - (LIBOR + 0.25%) = 0.50%

The advantage enjoyed by A is called absolute advantage. However it can be seen that

cost of funds for B is higher in fixed rate market by 100bp whereas it is higher by 25bp in the

floating rate market. Thus B has a relative advantage in the floating market which is known as

comparative advantage. Give the objective A will borrow in floating rate market while B will

borrow in fixed rate market. However considering the comparative advantage enjoyed by B it is

possible to reduce the cost of fund for both A and B if they borrow in the market where they

enjoy comparative advantage and then swap their borrowing. The reduction in the cost depends

upon the quality spread.

In this case the amount of benefit that can be derived by both the parties will be the

difference between the quality spread which is 50 bp (i.e. 1% - 0.50%). Assume that both the

parties want to share the benefit equally between them.

Under the SWAP agreement:

A – Borrows funds in the fixed rate market and lends to B

B – Borrows funds in the floating rate market and lends to A

Let us assume that B lends to A at LIBOR and A lends to B at 14%.




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The net cost of funds to A and B using the swap is as shown below

Party Paid to

counterparty

Received from

counterparty

Paid to Market Net

cost

Savings

A LIBOR 14% 14% LIBOR [(LIBOR + .25%)

– LIBOR] = 0.25%

B 14% LIBOR LIBOR + 0.75% 14.75% (15% - 14.75%) =

0.25%

As seen above funds are available to A LIBOR as against LIBOR + 0.25% and B at

14.75% instead of 15%. Thus swap enables reduction in cost of funds.

Swap agreement

Illustration 2:

A pays fixed rate to B (A receives variable rate)

B pays variable rate to A (B receives fixed rate).

Consider the following swap in which Party A agrees to pay Party B periodic fixed

interest rate payments of 3.00%, in exchange for periodic variable interest rate payments of

LIBOR + 50 bps (0.50%). Note that there is no exchange of the principal amounts and that the

Market

Fixed rate

Market

A B

LIBOR




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interest rates are on a "notional" (i.e. imaginary) principal amount. Also note that the interest

payments are settled in net (e.g. if LIBOR is 1.30% then Party B receives 1.20% (3.00% -

(LIBOR + 50 bps)) and Party A pays 1.20%). The fixed rate (3.00% in this example) is referred

to as the swap rate

At the point of initiation of the swap, the swap is priced so that it has a net present value

of zero. If one party wants to pay 50 bps above the par swap rate, the other party has to pay

approximately 50 bps over LIBOR to compensate for this.

Types

Being OTC instruments interest rate swaps can come in a huge number of varieties and

can be structured to meet the specific needs of the counterparties. By far the most common are

fixed-for-fixed, fixed-for-floating or floating-for-floating. The legs of the swap can be in the

same currency or in different currencies. (A single-currency fixed-for-fixed rate swap is

generally not possible; since the entire cash-flow stream can be predicted at the outset there

would be no reason to maintain a swap contract as the two parties could just settle for the

difference between the present values of the two fixed streams; the only exceptions would be

where the notional amount on one leg is uncertain or other esoteric uncertainty is introduced).

Fixed-for-floating rate swap, same currency

Party P pays/receives fixed interest in currency A to receive/pay floating rate in currency

an indexed to X on a notional N for a term of T years. For example, you pay fixed 5.32%

monthly to receive USD 1M Libor monthly on a notional USD 1 million for 3 years. The party

that pays fixed and receives floating coupon rates is said to be long the interest swap. Interest

rate swaps are simply the exchange of one set of cash flows for another.

Fixed-for-floating swaps in same currency are used to convert a fixed rate asset/liability

to a floating rate asset/liability or vice versa. For example, if a company has a fixed rate USD 10

million loan at 5.3% paid monthly and a floating rate investment of USD 10 million that returns

USD 1M Libor + 25 bps monthly, it may enter into a fixed-for-floating swap. In this swap, the




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company would pay a floating USD 1M Libor+25 bps and receive a 5.5% fixed rate, locking in

20bps profit.

Fixed-for-floating rate swap, different currencies

Party P pays/receives fixed interest in currency A to receive/pay floating rate in currency

B indexed to X on a notional N at an initial exchange rate of FX for tenure of T years. For

example, you pay fixed 5.32% on the USD notional 10 million quarterly to receive JPY 3M

(TIBOR) monthly on a JPY notional 1.2 billion (at an initial exchange rate of USD/JPY 120) for

3 years. For non-deliverable swaps, the USD equivalent of JPY interest will be paid/received

(according to the FX rate on the FX fixing date for the interest payment day). No initial exchange

of the notional amount occurs unless the FX fixing date and the swap start date fall in the future.

Fixed-for-floating swaps in different currencies are used to convert a fixed rate

asset/liability in one currency to a floating rate asset/liability in a different currency, or vice

versa. For example, if a company has a fixed rate USD 10 million loan at 5.3% paid monthly and

a floating rate investment of JPY 1.2 billion that returns JPY 1M Libor +50 bps monthly, and

wants to lock in the profit in USD as they expect the JPY 1M Libor to go down or USD/JPY to

go up (JPY depreciate against USD), then they may enter into a Fixed-Floating swap in different

currency where the company pays floating JPY 1M Libor+50 bps and receives 5.6% fixed rate,locking in 30bps profit against the interest rate and the FX exposure.

Floating-for-floating rate swap, same currency

Party P pays/receives floating interest in currency A Indexed to X to receive/pay floating

rate in currency A indexed to Y on a notional N for tenure of T years. For example, you pay JPY

1M LIBOR monthly to receive JPY 1M TIBOR monthly on a notional JPY 1 billion for 3 years.

Floating-for-floating rate swaps are used to hedge against or speculate on the spread

between the two indexes widening or narrowing. For example, if a company has a floating rate

loan at JPY 1M LIBOR and the company has an investment that returns JPY 1M TIBOR + 30

bps and currently the JPY 1M TIBOR = JPY 1M LIBOR + 10bps. At the moment, this company

has a net profit of 40 bps. If the company thinks JPY 1M TIBOR is going to come down (relative




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to the LIBOR) or JPY 1M LIBOR is going to increase in the future (relative to the TIBOR) and

wants to insulate from this risk, they can enter into a float-float swap in same currency where

they pay, say, JPY TIBOR + 30 bps and receive JPY LIBOR + 35 bps. With this, they have

effectively locked in a 35 bps profit instead of running with a current 40 bps gain and index risk.

The 5 bps difference (with respect to the current rate difference) comes from the swap cost which

includes the market expectations of the future rate difference between these two indices and the

bid/offer spread which is the swap commission for the swap dealer.

Floating-for-floating rate swaps are also seen where both sides reference the same index,

but on different payment dates, or use different business day conventions. These have almost no

use for speculation, but can be vital for asset-liability management. An example would be

swapping 3M LIBOR being paid with prior non-business day convention, quarterly on JAJO (i.e.

Jan, Apr, Jul, Oct) 30, into FMAN (i.e. Feb, May, Aug, Nov) 28 modified following・

Floating-for-floating rate swap, different currencies

Party P pays/receives floating interest in currency A indexed to X to receive/pay floating

rate in currency B indexed to Y on a notional N at an initial exchange rate of FX for a tenor T

years. For example, you pay floating USD 1M LIBOR on the USD notional 10 million quarterly

to receive JPY 3M TIBOR monthly on a JPY notional 1.2 billion (at an initial exchange rate of

USD/JPY 120) for 4 years.

To explain the use of this type of swap, consider a US company operating in Japan. To

fund their Japanese growth, they need JPY 10 billion. The easiest option for the company is to

issue debt in Japan. As the company might be new in the Japanese market without a well known

reputation among the Japanese investors, this can be an expensive option. Added on top of this,

the company might not have appropriate debt issuance program in Japan and they might lack

sophisticated treasury operation in Japan. To overcome the above problems, it can issue USD

debt and convert to JPY in the FX market. Although this option solves the first problem, it

introduces two new risks to the company:




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FX risk. If this USD/JPY spot goes up at the maturity of the debt, then when the company

converts the JPY to USD to pay back its matured debt, it receives less USD and suffers a

loss.

USD and JPY interest rate risk. If the JPY rates come down, the return on the investment

in Japan might go down and this introduces an interest rate risk component.

The first exposure in the above can be hedged using long dated FX forward contracts but

this introduces a new risk where the implied rate from the FX spot and the FX forward is a fixed

rate but the JPY investment returns a floating rate. Although there are several alternatives to

hedge both the exposures effectively without introducing new risks, the easiest and the most cost

effective alternative would be to use a floating-for-floating swap in different currencies. In this,

the company raises USD by issuing USD Debt and swaps it to JPY. It receives USD floating rate(so matching the interest payments on the USD Debt) and pays JPY floating rate matching the

Fixed-for-fixed rate swap, different currencies

Party P pays/receives fixed interest in currency A to receive/pay fixed rate in currency B

for a term of T years. For example, you pay JPY 1.6% on a JPY notional of 1.2 billion and

receive USD 5.36% on the USD equivalent notional of 10 million at an initial exchange rate of

USD/JPY 120.

Uses

Interest rate swaps were originally created to allow multi-national companies to evade

exchange controls. Today, interest rate swaps are used to hedge against or speculate on changes

in interest rates.

Hedging: Today, interest rate swaps are often used by firms to alter their exposure to interest-

rate fluctuations, by swapping fixed-rate obligations for floating rate obligations, or vice versa.

By swapping interest rates, a firm is able to alter its interest rate exposures and bring them in line

with management's appetite for interest rate risk.




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Speculation: Interest rate swaps are also used speculatively by hedge funds or other investors

who expect a change in interest rates or the relationships between them. Traditionally, fixed

income investors who expected the rates to fall used to purchase cash bonds, whose value

increased as rates fell. Today, investors with a similar view could enter a floating-for-fixed

interest rate swap; as rates fall, investors would pay a lower floating rate in exchange for the

same fixed rate.

Interest rate swaps are also very popular due to the arbitrage opportunities they provide.

Due to varying levels of creditworthiness in companies, there is often a positive quality spread

differential which allows both parties to benefit from an interest rate swap.

The interest rate swap market is closely linked to the Eurodollar futures market which

trades at the Chicago Mercantile Exchange.

Risks

Interest rate swaps expose users to interest rate risk and credit risk.

Interest rate risk originates from changes in the floating rate. In a plain vanilla fixed-for-

floating swap, the party who pays the floating rate benefits when rates fall. (Note that the

party that pays floating has an interest rate exposure analogous to a long bond position.)

Credit risk on the swap comes into play if the swap is in the money or not. If one of the

parties is in the money, then that party faces credit risk of possible default by another

party.




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12. Forward Rate Agreements

A forward rate agreement is a simple derivative which is used when the institution is

exposed to single period interest rate risk. An FRA is a tailor-made futures contract. As the name

implies, it is an agreement to fix a future interest rate today, for example the 6 month LIBOR rate

for value 3 months from now (a 3 X 9 FRA in market terms). When the future date arrives the

FRA contract rate is compared to actual market LIBOR. If market rates are higher than the

contract rate, the borrower/FRA buyer receives the difference; if lower, he pays the difference.

For the investor/FRA seller, the FRA flows would be reversed. Underlying borrowing or

investment programs proceed normally at market rates, while the compensating payment

provided by the FRA brings the hedgers' all-in cost or yield back to the base rate contracted for

in the FRA.

Using FRAs

Companies use FRAs to protect short term borrowing or investment programs from

market surprises. For example, a borrower with debt rollovers coinciding with a scheduled

meeting of the Federal Open Market Committee uses FRAs to lock rollover rates in advance.

FRAs also allow companies to take advantage when the yield curve inverts (long term

rates fall below short term rates). When this happens a company which plans to borrow in the

future would use FRAs to lock-in a future borrowing base rate at level lower than today's rates.

FRAs are also valuable in making temporary adjustments to long term financial positions.

For example, a company which has swapped floating rate debt to fixed can use FRAs to improve

the swap's performance in the short run when short term rates are expected to decline. In this

instance FRAs protect the value of future swap floating rate receipts from the impact of falling

rates.

Terminologies

The following some of the terms used in FRAs

Buyer/ Borrower: The buyer of FRA is one who seeks protection against rise in interest

rates.




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Seller/Lender: The seller of FRA is one who seeks protection against decrease in interest

rates.

Settlement date: This is the start date of the loan or deposit upon which the FRA is based.

Maturity date: This is the date on which the FRA contract period ends.

Contract period: It refers to the intervening period between the settlement date and the

maturity date.

Contract amount: It means the notional sum on which the FRA is based.

Contract rate: It signifies the forward rate of interest for the contract period as agreed

between the periods.

Fixing date: It is the day which is two business days prior to the settlement date except

for pound sterling for which the fixing date and settlement date are the same

Example of FRA being used when exposed to single period interest rate risk

Say SBI has funded a one year USD 5 million floating rate loan on 6 month ―LIBOR+‘

basis. It is exposed to interest rate risk from 6th to the 12th month. Since the LIBOR for the first

six month is already fixed at the time of sanction of the loan, the bank would have already locked

itself into a spread. Its main course of concern will be that at the end of the first six months

period its spread would be adversely affected, if the LIBOR were to go down.

If 6-12 FRA is being quoted at 5.25-5.30 percent, the bank has to sell FRA at 5.25%,

since it is seeking protection against a fall in interest rates. If the actual LIBOR settles at 5.15

percent on the settlement date (i.e. six months from now), then the notional buyer/borrower (that

is the quoting bank) has to compensate the SBI (i.e. the notional lender) for the difference in

interest rate on the notional principal amount of USD 5 million. This is due to the fact that when

the bank has sold a 6-12 FRA, the contract was that it has notionally lend an amount of USD 5

million at rate of 5.25 percent for a period starting six month and ending 12 months for now. As

the interest rate has gone down and SBI is going to sustain a loss of 0.10 percent, it needs to be

financially compensated for the same. It is to be noted that no actual exchange of the principal

amount takes place and that the notional principal amount is used for calculating the

compensating amount.




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The compensating amount is calculated as per normal interest calculations viz:

(Difference in the interest rates) x Notional principal amount x (number of days of contract)

(5.25%-5.15%) X 5000000 X 180/360 = USD 2500

However in the FRA market this amount is settled up front i.e. before the loan period.

Hence the amount has to be discounted for the six month period at the ongoing market rate,

which is 5.15%

The present value of compensation amount is calculated using the formula

Present value of Compensation amount = (L-R) or (R-L) x D X P/B x 100 – DxL

Where,

L = settlement rate

R = Contract reference rate

D = Days in contract Period

B = Days basis

P = Notional principal amount

Thus the present value of compensating amount is

= .10 x 180 x 5000000 / (360x100) – (180 x 5.15) = USD 2437.24

Hence SBI will receive USD 2437.24, representing 10basis point from the buyer of the

FRA, i.e. the quoting bank. This would compensate SBI for for the decrease in the spread due

tom decrease in LINOR from 5.25% to 5.15%, in the underlying market. As such the bank is

fixed to a LIBOR of 5.25% irrespective of the movement in the LICOR, by hedging through the

FRA.




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13. CONCLUSION

The foreign exchange business is, by its nature risky because it deals primarily in risk-

measuring it, pricing it, accepting it when appropriate and managing it. Managing foreign

exchange risk is a fundamental component in the safe and sound management of companies that

have exposures in foreign currencies. It involves prudently managing foreign currency positions

in order to control, within set parameters, the impact of changes in exchange rates on the

financial position of the company. There are mainly three type of foreign exchange exposure -

translation exposure, transaction exposure and economic exposure.

Unmanaged exchange rate risk can cause significant fluctuations in the earnings and the

market value of an international firm. A very large exchange rate movement may cause special problems for a particular company, perhaps because it brings a competitive threat from a

different country. There are various tools that are available for managing the foreign exchange

risk. These include traditional tools like money market hedge, currency risk sharing, insurance

and modern derivative tools like forward, futures, options, swap and forward rate agreements

which can be used by organisation as per the specific needs and requirements to manage the

foreign exchange risk.




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14. RECOMMENDATIONS

RISK INVOLVED IN FOREX MANAGEMENT CAN BE REDUCED BY-

Comprehensive Systems and Operations Manuals

Proper Organisations Structure and adequate personnel

Separation of trading function from settlement, accounting, and risk control

Strict enforcement of authority and limits

Written confirmation of all verbal dealings

Legally binding agreement with counter parties ensuring proposed transaction are not

ultra vires

Contingency Planning

Internal Audits

Daily reconciliations

Ethical standards and code of conduct

Dealing disciplines




15. BIBLIOGRAPHY

Text books

Foreign Exchange Risk management – BSE Training Institute

Risk Management – By Dr. G. Kotreshwar (First edition – Print 2007)

Futures and Options – By A.N. Shridhar

NCFM Handbook, NSE

Websites:

www.investopedia.com

www.wikipedia.org

www.kshitij.com

www.financial-dictionary.thefreedictionary.com

www.rbi.org.in

http://www.investopedia.com/

http://www.wikipedia.org/

http://www.kshitij.com/

http://www.financial-dictionary.thefreedictionary.com/

http://www.financial-dictionary.thefreedictionary.com/

http://www.kshitij.com/

http://www.wikipedia.org/

http://www.investopedia.com/

foriegn exchange and anlaysis through risk maangement

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