GROWTH OF CURRENCY FUTURES MARKET IN INDIA : A REALITY CHECK

GROUP V : ANUJ KHERA NMP24- 06 DINESH NMP24-13 JAGDISHWARA REDDY .S NMP24-14 PARWAZ ALAM KHAN NMP24-19 ANIL KUMAR BHARDWAJ NMP24-29

A transferable futures contract that specifies the price at which a specified currency can be bought or sold at a future date.

Currency future contracts allow investors to hedge against foreign exchange risk.

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Provide an additional tool for hedging currency risk. Further development of domestic foreign exchange market. Permit trades other than hedges with a view to moving gradually towards fuller capital account convertibility Provide a platform to retail segment of the market to ensure broad based Participation based on equal treatment Efficient method of credit risk transfer through the Exchange Create a market to facilitate large volume transactions to go through on an anonymous basis without distorting the levels.
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Main implications of currency futures market for monetary and exchange rate policies arise from the following: Risks of possible dollarization of the economy Risks of possible increased volatility in the exchange rate

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Currency futures were first created at the Chicago Mercantile Exchange (CME) in 1972 International Monetary Market (IMM) launched trading in seven currency futures on May 16, 1972.

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Currency futures trading was started in Mumbai August 29, 2008. With over 300 trading members including 11 banks registered in this segment, the first day saw a very lively counter, with nearly 70,000 contracts being traded. The first trade on the NSE was by East India Securities Ltd Amongst the banks, HDFC Bank carried out the first trade. The largest trade was by Standard Chartered Bank constituting 15,000 contracts. Banks contributed 40 percent of the total gross volume.

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Currency futures can be traded between Indian rupees and US dollar (US$ -- INR) The trading of Indian currency futures can be done between 9 am to 5 pm The minimum size of currency futures is US$ 1000 periodically the value of the contract can be changed by RBI and SEBI The currency future can have maximum validity of 12 months The currency futures contract can be settled in cash
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There are 3 trade exchange that trades in currency futures



National Stock Exchange (NSE) Bombay Stock Exchange (BSE) Multi-Commodity Exchange (MCX)

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Rohit thakur

1/14/2012

According to market analysts, introduction of currency futures in the Indian market will give companies


Greater flexibility in hedging their underlying currency exposure and will bring in more liquidity into the market as currency future or Forex derivative contract will enable a person, a bank or an institution to buy or sell a particular currency against the other on a specified future date, and at a price specified in the contract.

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Futures contracts, mirroring the underlying assets Forex Bonds Interest rates Index Stocks Commodities Others

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Transparency and efficient price discovery. The market brings together divergent categories of buyers and sellers. Elimination of counterparty credit risk. Access to all types of market participants. Standardized products. Transparent trading platform

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Standardization it is not possible to obtain a perfect hedge in terms of amount and timing. Cost forwards have no upfront cost, while margining requirements may effectively drive the cost of hedging in futures up. Small lots- not possible to hedge small exposures generally.

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The principle objective of the Foreign Exchange Regulation Act (FERA) is to prevent the outflow of Indian currency. The objective of the act is as follows.

To regulate dealings in foreign exchange and securities To regulate the transaction indirectly affecting foreign exchange To regulate import and export of currency and bullion To regulate employment of foreign nationals To regulate foreign companies To regulate acquisition, holding etc of immovable property in India by non-residents

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The FEMA act extends to the whole of India. The main provision of the Act are as follows:
     

Section 3: Dealing in Foreign Exchange Section 4 Holding of foreign Exchange Section 5 Current account Transaction Section 6 : Capital account Transaction Section 7: Export of Goods and Services Section 8 : Relisation of Repatriation and Foreign Exchange Section 9: Exemption from Resalisation and Repatriation

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The term derivative is defined in section 45U (a) of the RBI Act to mean an instrument, to be settled at a future date, whose value is derived from change in interest rate, foreign exchange rate, credit rating or credit index, price of securities (also called underlying), or a combination of more than one of them and includes interest rate ,swaps, forward rate agreements, foreign currency swaps, foreign currency-rupee swaps, foreign currency options, foreign currencyrupee options or such other instruments as may be specified by the Bank from time to time.

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Section 45 the Act provides that notwithstanding anything contained in the Securities Contracts (Regulation) Act, 1956 (42 of 1956), or any other law for the time being in force, transactions in such derivatives, as may be specified by the Bank from time to time, shall be valid, if at least one of the parties to the transaction is the Bank, a scheduled bank, or such other agency falling under the regulatory purview of the Bank under the Act, the Banking Regulation Act, 1949 (10 of 1949), the Foreign Exchange Management Act, 1999 (42 of 1999), or any other Act or instrument having the force of law, as may be specified by the Bank from time to time. V (1)

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Section 45 W deals with the power of the Reserve Bank to regulate transactions in derivatives. The Reserve Bank is empowered by section 45 W to give directions to all agencies or any of them, dealing in securities, money market instruments, foreign exchange, derivatives, or other instruments of like nature as the Bank may specify from time to time and also to call for any information, statement or other particulars from such agencies or cause an inspection of such agencies to be made.

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Section 3:- no person can deal in or transfer foreign exchange or foreign security to any person without general or special permission granted by the Reserve Bank. Sale or drawal of foreign exchange to or from an authorized person is subject to the reasonable restrictions imposed by the Central Government in consultation with the Reserve Bank Section 7:- prohibit, restrict or regulate capital account transactions section 10:- authorize any person to deal in foreign exchange or foreign securities, etc The Reserve Bank is competent to permit any person to trade in foreign exchange by way of spot, forward or futures in exercise of its powers under the FEMA. FEMA also provides the Reserve Bank with overriding jurisdiction over development and management of foreign exchange markets. Therefore, the Reserve Bank may specify currency futures as an added instrument.
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under regulation 4 of FEMA 25 in Schedule I, rules for domestic foreign exchange market are covered under regulation 5 of FEMA 25 in Schedule II:-the
permission to a person resident outside India to enter into a foreign exchange derivative contract is covered

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Derivatives in India: A Chronology

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Data and Quantitative Analysiscurrency futures

trading turnover stood at 10,62,087 crore ($239.3 billion) and averaged at 50 576 crore ($11.4 billion) per day in July 2011.

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Data and Quantitative Analysiscurrency futures

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Data and Quantitative Analysiscurrency futures

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Data and Quantitative Analysiscurrency futures

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Data and Quantitative Analysiscurrency futures

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Data and Quantitative Analysiscurrency futures

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Data and Quantitative Analysiscurrency futures

Unhedged FX Asset Return = Expected FX Asset Return + Currency Surprise

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Others Public Sector Banks

Financial Institutions

Foreign Banks

Private Banks

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Most widely traded currency Dollar  Investment currency in capital markets  Reserve currency of Central Banks  Transaction currency in many commodity markets  Invoice currency for many contracts

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Participants  Central Banks  Commercial Banks  Hedge Funds  Commercial companies  Investment management firms  Retail FX brokers  INDIVIDUALS

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Main Instruments  Spot  Outright forwards  Swaps  Interest Rate Swaps  Currency Swaps  OTC Currency Options  Exchange Traded Currency Futures

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Supply and Demand Forces Dollar against major currencies like Euro, Pound, Yen Global Asian Stock markets Indian Stock markets Economic factors
    Government budget deficits Interest rates Inflation Fiscal and Monetary Policy

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Market activity


Hedging  Banks  Importers & Exporters  Corporate Trading/ Speculation  View on appreciation or depreciation of USD/INR Arbitrage  Inter market (OTC forwards and NSE - futures)  Inter exchange ( NSE and MCX-SX, NSE and DGCX)

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OTC Market
 Interbank Market - Average daily turnover in Global
FX market- over $3.5 trillion

 Forward Contracts  Customized Contracts

 High Spreads

   

Access restricted to participants with underlying positions Physical Settlement Low Accessibility Counterparty Risk

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A new and better alternative for trading FX

USD/ INR cash settled futures market at NSE
   


 

Access to all Indians Transparent online trading platform No requirement for underlying position Low Margins Anonymous order matching facility Robust settlement systems with counterparty guarantee Low Bid Offer Spreads

Euro, Yen and Sterling v/s Rupee futures to be added soon to the Currency Derivatives Segment (RBI has already given permission)

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Expectation that dollar will strengthen against the rupee

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Buy 10 November futures @ 46.60 Cash outflow of margin @ 5 % - Rs 23,300

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Book Potential Profit / Loss

Sell November futures @ 46.75 to book profit of Rs 1,500 on an investment of Rs 23,300 What if my view is completely wrong ? Sell futures @ 46.30 and book a loss of Rs 3000 RETURN of 6.43 % INTRA-DAY

Stop Loss Trigger at a movement of 10 paise per $ against the view to prevent excess losses

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Hedge the FX exposure

Exporter : IT, Electronics & Hardware, Jewelery, Auto Ancillaries, Textiles, Chemicals, Food & Beverages Importer : Oil and Gas , Gems and Jewelery Investors : Institutions investing abroad Borrowers : ECB's and FCCB's Individuals : Students studying abroad

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Hedging Example - Importer

If an Oil Importer wants to import Crude Oil, worth $1 million on June 3, 2009 with delivery and payment dates being three months ahead, in Sept 2009.
Spot Rate on 3rd June 09 Amt payable as on 3rd June 09 Buy 3 month futures contract Futures Price = Spot + Cost of Carry Futures Price in INR Spot Rate on 3rd September 09 If not hedged payment would Saving due to hedging INR 46.74 per USD Rs 4,67,40,000 (46.74 * 1000000)

USD 47.05 (46.74+0.31) Rs 4,70,50,000 INR 49.20 per USD Rs 4,92,00,000 Rs 21,50,000

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Hedging Example Exporter

Exporter earning USD 1,000,000 for DEC 09, expecting remittance on 25 DEC 2009
Spot Rate on 30th OCT 09 Sell 1000 USDINR contracts DEC 09 Futures Price = Spot+ Cost of Carry Futures Price in INR Spot Rate on 28 DEC 09 If not hedged receipt would be Saving due to hedging GROUP 5
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INR 47.02 per dollar

INR 47.20 per USD (47.02+0.18) Rs 4,72,00,000 INR 46.50 per USD Rs 4,65,00,000 Rs 7,00,000

Costs
 Deposit
Upfront Margin 5% of the contract amount

 Charges
Brokerage 0.04 % of the contract value

 Government Taxes and Duty

    Service Tax 10 % of Brokerage STT (only on sell) Nil ( as of now) Transaction Tax Nil ( as of now) Stamp Duty 0.002 %

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Margins / collaterals To be deposited pre trade Released once trade is unwound or the contract matures
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Forms of collaterals (*) Cash Bank guarantees Fixed deposits, GOI bonds Approved equities / mutual fund units
( * )- Check with Head office

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Providing collaterals Cash through CIM (debited from clearing bank account) FD and BG from approved banks GOI bonds through National Securities Clearing Corporation Ltd (NSCCL) Approved securities Releasing collaterals Cash next day in the bank a/c, FD and BG same day Approved securities to custodians on same day

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The market should be efficient with widespread awareness amongst various market players. It is most important that the contract size should be kept at such a level that it facilitates price discovery as well as trading, particularly for retail segment of market. While attracting liquidity through product innovation is a feature of the competitive market in the initial phase, a standardized product across various exchanges would invite greater participation and add to the liquidity of currency future markets. If FIIs have to be allowed in currency future trading, there should than be a cap on their open interest position in currency future. The positive aspects of the entry of these securities will be that they will bring in huge volumes and liquidity into the market. The contract should be settled on the last working day of the following month and settlement price should be the RBI reference rate on the last trading day. The exchange rate should be determined by the market forces, there should be a substantial intervention by the RBI. There can be two types of members in this trading such as- Hedger and Speculators. The responsibility of fixing of margin for these categories may be left to the exchange. Having a dedicated exchange for currency future may be preferred approach since it would ensure a clean regulatory and supervisory structure.

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Thank you

1/14/2012

Rohit thakur

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