Post on 28-Oct-2014
Trading in Currency Futures
Why to Trade in Currency Futures
•A separate Asset Class
•Correlation with different Asset Classes
•Commodities•International/COMEX Gold Price
•USD/INR depreciation leads to rise in MCX gold prices
•International Crude Price
•Equities
Why to Trade in Currency Futures:
Market Potential of USD 34 Billion a day(Average Daily Volume in the OTC Market)
Conservatively:USD 30 Billion= 30 X 100 X 40 = INR 1, 20, 000 Crs
Lets Assume 1 USD = INR 40.00
50% of the above will be Rs 50 – 60, 000 Crs a day
Foreign Exchange Markets in India
Regulated by Reserve Bank of India
Participants include; banks, corporate entities, FIIs, NRIs and individuals
All participants trade within limits or parameters prescribed by the
Reserve Bank of India
Tenor
Amount
Direction
Past Performance
The average daily volume stands at USD 34 billion
All foreign currency spot and forward transactions need to be routed
through Scheduled Commercial Banks, which have been granted
Authorized Dealer licenses by the RBI
Currency Futures - FrameworkMarket timings 09:00 to
17:00
Order driven market
Last trading day: two
business days prior to last
business day of the month
(spot convention)
Expiring contract will trade
till 12:00 noon on the last
trading day
Category Description
Underlying Rate of exchange between 1 USD and INR (USDINR)
Contract Size USD 1000
Contract Months
12 near calendar months
Final Settlement Date
Last business day of the month
Min Price fluctuation
0.25 paise or INR 0.0025(46.9000 – 46.9025)
Settlement Cash settled in INR on relevant RBI reference rate
Currency Futures - FrameworkAll resident Indian entities and individuals permitted to trade
No underlying required to be provided, this enables hedging of derived exposures
Position limits will determine amount that can be traded
Trading member – USD 25 million or 15% of Open Interest whichever is higher
Client position limits – USD 5 million or 6% of Open Interest whichever is higher
Margins to be posted with the trading / clearing member pre - trade
Daily mark to market on the following day
OTC vs Currency futuresOTC Market Exchange Traded
Futures
Accessibility Credit dependent High
Price Transparency
Low High
Liquidity Subject to credit limits
High
Agreements Customized Standard
Credit Exposure
Yes Mitigated through the clearing corporation
Margins (collateral)
Usually not required Required
Daily MTM No Yes
OTC vs Currency futures
OTC Market Exchange Traded Futures
Execution Bank Trading Member
Underlying exposure
Required Not required
Settlement Physical Delivery Net Settled in INR
Position limits
Dependent on Underlying
Higher of USD 5 mio or 6% of Open Interest
As a client on NSE CDS…
Underlying not required to trade on the exchange
Immediate trade reversal can be done
Margins released when trade is unwound or expires
MTM settlement happens the next day and you need not wait for
original contract maturity date for cash flow
Trading screen accessible to client - price transparency
CDS - ParticipationMore than 500 Members are Participating
12 Banks are trading members and more are in the pipeline
Daily gross traded volume: around Rs. 2000 crs.
– Proprietary : 40%– Corporate : 10%– Banks : 10%– Retail : 40%
Near month most active
Thin Bid-ask spreads
Understanding the Rate Fluctuation• INR/USD goes from Rs.40 to Rs.45• Thus more INR will be required to buy the same amount of
USD• This is appreciation of USD• But depreciation of INR• Holders of buy position in USD will benefit
• If INR/USD goes from Rs.40 to Rs.35• This is depreciation of USD• But appreciation of INR• Holders of Sell position in USD will benefit
What factors affect Exchange Rate& hence trading decisions ?
Macro economic views
Monetary Policy
RBI intervention
Flow information
Performance of other Asian
currencies
Performance of equity markets
USD sentiment
Performance of key commodities
affecting trade
Policy announcements affecting
flows – trade or capital
REER – Real Effective Exchange
Rate
Data announcements
Indian Foreign Exchange Markets:
INR trades in a managed floating exchange rate regime
INR is fully convertible on India’s current account, but not on the capital
account
Foreign institutional investors can fully repatriate their investments
Resident Indian individuals have been permitted to invest offshore
All foreign currency spot and forward transactions need to be routed
through schedule commercial banks (Authorized Dealers)
Access is restricted to banks and entities having a commercial exposure
Volumes and tenor is restricted to underlying exposure
Only banks have open position limits
A new and better alternative for trading:
USD-INR cash-settled futures market at NSE• Access to all Indians• Currently restrictions on NRI / FII• No requirement for underlying position• Small contract size• Low margins• Settlements guaranteed & no counter party risks• Online real-time screen based trading• Convergence of national / international investors• Transparent order book
What drives trading of currencies & who are the participants
Directional ViewsPositioning for INR appreciation or depreciation
Hedging existing exposureImporters & Exporters hedging future payables or receivablesBorrowers hedging FCY loans – interest or principle paymentsNRIs looking to hedge their investment in IndiaResident Indians looking to hedge investments offshoreFIIs hedging their investments in India
Trade and Capital FlowsRemittances for trade or services and capital transactions
ArbitrageEntities who can access onshore and non deliverable forward markets
Taking a View on the Spot
Market
Volatility of USD/INR exchange rate
USD/INR 28th Jan 09 Contract : 49.20
Current Spot Rate (29th Dec ‘08) : 49.10 View : INR to depreciate
Position in Futures : Buy USD/INR future Contract at 49.20
Position at maturity (28th Jan 09) : 49.60
Profit / Loss : Profit Rs. 400 on 01 Contract
A currency future contract is similar to a futures contract on any Scrip or Index
Taking a View on Spot INR
Investment in Margin : Approx. 5% of the Contract size
Factors Affecting Trading decisions
Hedge Currency Risk
Using Futures to Hedge Currency Risk An exporter wants to protect himself from the likely appreciation in Rupee. He has dispatched the consignments on 5th September and he is expecting the payment of $25,000 by December end. Current spot rate of USD-INR is 44.80.
•On 5th September sell 25 numbers of USD-INR future contracts (each of $1000) of December month at the prevailing rate of 44.95
•On 28th December cover sell position by purchasing 25 contracts of December month at the then prevailing rate of say 44.45.
•Simultaneously sell $25,000 (receipt from overseas party) in the spot market at the rate of 44.45
•Profit from future contracts = 25,000 x (44.95 – 44.45) = Rs. 12,500
•In spot Market: Loss due to currency appreciation from 44.80 in September to 44.45 in December = 25,000 x (44.8 – 44.45) = Rs.8, 750
Payoff of Hedge vis-à-vis the transaction
•His Notional Net Profit as a result of Hedging transactions would be: Rs. 12,500 - Rs.8, 750 = Rs.3, 750
o NOTE: Had he not taken position in the currency futures, he would have made a loss of Rs.8, 750. On the contrary, he has not only covered his loss but also earned little profit from the futures transaction.
Remove Forex Risk while trading in the Commodity Market
• COMEX gold prices have direct relationship with MCX gold prices
• MCX prices decreases along with decrease in COMEX
prices
• But USD/INR depreciation leads to rise in MCX gold
prices
• This fluctuation affects the profit margins of
corporate/clients
• By hedging USD/INR through futures, offsets the deviation caused in COMEX and MCX prices
Remove Forex Risk while trading Commodities
Scenario I - USD/INR = 44.30 Scenario II - USD/INR = 44.60 (Constant) (Depreciates from 44.30)
Sell COMEX Gold @ $830 Sell COMEX Gold @ $830
Buy COMEX Gold @ $820 Buy COMEX Gold @ $820
Profit = $10 Profit = $10
Sell MCX Gold @ 11,860 Sell MCX Gold @ 11,860
Buy MCX Gold @ 11,760 Buy MCX Gold @ 11,810
Profit = Rs.100/- Profit = Rs.50/-
Pay off from the Hedge
Arbitrage (Futures Market & OTC Market)
• Sell in futures @ 44.4625 levels (1 month) • Buy in forward @ 44.3250 + 3 paisa premium = 44.3550 (1 month)
• Net Gain = 44.4625-44.3550 = 0.1075
• i .e. Approx 11 Paisa arbitrage
• Arbitrage will be realized at the expiry of the contract.
Arbitrage Opportunity
Currency Futures Trading at Sharekhan
CDS WEB site
Currency Futures Trading at Sharekhan:
• Market Timing : 9.00 A.M. to 5.00 P.M.• Contract Size : 1000 USD per lot• Maturity Period : 12 monthly contracts with expire
on the last working day (excluding Saturdays) of the month
• Quote : INR per USD • Margin : Initial Margin + SPAN
(Maintenance Margin), Total would be approx. 5% - 6%
• Tick : 0.0025 INR• Profit/Loss (per Contract) : 01 tick = Rs 2.50
01 Paise = Rs. 10.00
Brokerage % 0.01% 0.02% 0.03% 0.04% 0.05%Absolute Brokerage 0.00475 0.0095 0.01425 0.019 0.02375
Service Tax On Brok. 12.00% 0.00057 0.00114 0.00171 0.00228 0.00285
w.e.f. 16.05.08Edu. CESS on Service Tax 2.00% 0.0000114 0.0000228 0.0000342 0.0000456 0.000057
Higher Edu.CESS on Service Tax 1.00% 0.0000057 0.0000114 0.0000171 0.0000228 0.0000285
Transaction Charge on T.O. SEBI Turnover fees on Value 0.0002% 0.000095 0.000095 0.000095 0.000095 0.000095
Stamp Duty on T.O. 0.002% 0.00095 0.00095 0.00095 0.00095 0.00095
Total 0.0063821 0.0117192 0.0170563 0.0223934 0.0277305
Tick (0.25 paise or INR 0.0025) 3 5 7 9 11
If Price is 47.50
Important Websites :
•Nseindia.com•Sharekhan.com•Reuters.in (in.reuters.com)•Rbi.org.in•Fedai.org.in
Last Trade Date
RBI Reference Rate
Last Traded Price
Diff.
25-SEP-2008 46.2500 46.2500 0.0000
27-OCT-2008 50.0900 50.1050 0.0150
26-NOV-2008 49.8500 49.8550 0.0050