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Currency Derivatives Trading

A Currency market is a market in which one Currency is traded for another. The Spot exchange rate refers to the prevailing exchange rate at which a Currency can be bought or sold for another. The Forward exchange rate refers to the exchange rate for the future delivery of the underlying Currencies.

Currency Derivatives can be bought and sold on the Currency Exchanges through members of the Exchange. Forexserve offers its clients trading platform on NSE CDS Segment.
 
Sr. No.
Over the Counter Forward with Indian Banks
Exchange Traded Currency Futures
Regulator
RBI
SEBI under the aegis of RBI
Exposure/Trading Limit
As per bank sanction, depending upon trade exposures
As per margin deposited with the exchange >
Contract delivery
Mandatory
Not required
Cash flow exchange
If not delivered, profits not credited on cancellation but losses debited to client account
Daily marked to market settlement
Transparency
Low, Discretionary rates charged by Bank
High, Market quoted rates
Execution
Timing depends upon banks, rates not quoted after 4:30 PM <
Timely between market hours (9AM-5PM)
Counterparty Margin/Brokerage
High
Low
Daily turnover (approx.)
$25.725 Billion
$ 10 Billion
 
WHY TO TRADE

A currency future 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.

HEDGING:

To hedge means “to minimize loss or risk”. It means, taking a position in the futures market that is opposite to a position in the physical market, with a view to reduce or limit risk associated with unpredictable changes in the exchange rate.

ARBITRAGE:

It means locking in a profit by simultaneously entering into transactions in two or more markets where there is a price differential of the same underlying. If the relation between forward prices and futures price differs, it gives rise to arbitrage opportunities. If there is price differential between two exchanges, it gives rise to arbitrage opportunities.

FINANCIAL LEVERAGE:

By putting an upfront margin of (say) 5%, a client can trade in currency futures. Thereby, leveraging his capital.

CASH SETTLED:

No requirement of an underlying to trade in currency futures.

MINIMAL COST OF TRADING:

Fees for corporate clients and individual clients tailored to suit their requirements.
 
Currency Futures

Currency Futures is a standardised foreign exchange derivative contract traded on a recognized stock exchange to buy or sell one currency against another on a specified future date, at a price specified on the date of contract, but does not include a forward contract.

Currency Futures are permitted in US Dollar – Indian Rupee (USD INR), Euro – Rupee (EUR INR), Great Britain Pound – Indian Rupee (GBP INR) and Japanese Yen – Indian Rupee (JPY INR). Currency Futures can be traded through Forexserve on NSE.


Advantages of Currency Futures

Low Brokerage
A highly competitive market keeps brokerage low.

Trade Directly in Exchange Platform
Futures/Options Currency trading allows clients to trade directly on Exchange platforms.

Standardization
Lots or contract sizes are determined by the Exchanges

Low Spread
The retail transaction cost (the bid/ask spread) is typically less than 0.1% under normal market conditions

Instantaneous Execution
High liquidity and low bid/ask spreads lead to immediate trades.

Low Margins, High Leverage
Margins of 3-5% increase leverage options. These two factors increase the potential for making higher profits (or losses).

Online Trading
The advent of online (internet) trading platforms helps you to trade at your convenience from your home, office or on the go.

No Individual Influence
The Forex market is so vast and has so many participants that no single entity, not even a central bank, can control the market price for an extended period of time.

Full Transparency & No Manipulation
Due to the Forex market's size and non-centralised nature, there is virtually no chance for ill effects caused by insider trading. Fraud possibilities, at least against the system as a whole, are significantly fewer than for any other financial instruments.

Currency Futures Specification
Sr.No.
USD-INR
EUR-INR
GBP-INR
JPY-INR
Underlying
US Dollar - Indian Rupee
EURO - Indian Rupee
Pound Sterling - Indian Rupee
Japanese Yen – Indian Rupee
Market Timing
9 a.m. to 5 p.m.
Size of the contract
USD 1,000
EUR 1,000
GBP 1,000
JPY 100,000
(since quotation is for 100 Japanese YEN; lot size on trading system shall be 1000 JPY)
Available contracts
All monthly maturities from 1 to 12 months would be made available
Settlement
The contract would be settled in cash in Indian Rupee
Settlement price
RBI Reference Rate
Final settlement day
The contract would expire on the last working day (excluding Saturdays)
Minimum Initial Margin
minimum of 1.75% on the first day of trading and 1% thereafter
minimum of 2.80% on the first day of trading and 2% thereafter
minimum of 3.20% on the first day of trading and 2% thereafter
minimum of 4.50% on the first day of trading and 2.30% thereafter
Calendar spread margin (subject to change)
1 month: Rs. 400
2 months; Rs 500
3 months; Rs 800
4 months or more; Rs 1000
1 month: Rs. 700
2 months; Rs 1000
3 months & more; Rs 1500
1 month: Rs. 1500
2 months; Rs 1800
3 months & more; Rs 2000
1 month: Rs. 600
2 months; Rs 1000
3 months & more; Rs 1500
Extreme Loss margin (subject to change)
1% on the MTM value of the gross open position
0.3% on the mark to market value of the gross open positions
0.5% on the mark to market value of the gross open positions
minimum of 4.50% on the first day of trading and 2.30% thereafter
 
Currency Options

Foreign exchange (FX) options are contracts that give the buyer the right, but not the obligation, to buy or sell one currency against the other, at a predetermined price and on or before a predetermined date.

The buyer of a call (put) FX option has the right to buy (sell) a currency against another at a specified rate. If this right can only be exercised on a specific date, the option is said to be European, whereas if the option can be exercised on any date till a specific date, the option is said to be American. Currently only USD INR options are permitted for trading in India and the clients can trade currency options through Forexserve on NSE.

Exchange traded currency options are standardized products with pre-defined maturities. They are easily accessible when compared with OTC derivatives contracts. Rupee options would introduce a greater flexibility in risk management and cost control for the corporation.


Factors influencing currency option prices


Parameter 
Call premium
Put premium
Exchange rate

As the exchange rate increases, the call premium also increases
As the exchange rate increases, the put premium decrease
Strike price 

As the strike rate increases, the call premium decreases.
As the strike rate increases, the put premium also increases
Risk free interest rate
As the interest rate in the economy increases, the value of call option increases.
As the interest rate in the economy increases, the value of put option decreases.
Time to maturity

The call & put options become more valuable as the time to maturity increases; it is because of the risk as the time increases.

Volatility

As the volatility increases there is high degree of uncertainty about the rate of the option


Advantages of Currency Options

Hedge for currency exposures to protect the downside while retaining the upside, by paying a premium upfront. This would be a big advantage for importers, exporters (of both goods and services) as well as businesses with exposures to international prices. Currency options would enable Indian industry and businesses to compete better in international markets by hedging currency risk.

Non-linear payoff of the product enables its use as hedge for various special cases and possible exposures. E.g. If an Indian company is bidding for an international assignment where the bid quote would be in dollars but the costs would be in rupees, then the company runs a risk till the contract is awarded. Using forwards or currency swaps would create the reverse positions if the company is not allotted the contract, but the use of an option contract in this case would freeze the liability only to the option premium paid up front.

The nature of the instrument again makes its use possible as a hedge against uncertainty of the cash flows. Option structures can be used to hedge the volatility along with the non-linear nature of payoffs. Attract further forex investment due to the availability of another mechanism for hedging Forex risk.

US Dollar - Rupee Currency Options Contract Specification
Symbol USDOPT
Instrument Type OPTCUR
Size of Contract 1 contract is for 1000 USD (Lot size)
Underlying US Dollar - Indian Rupee spot rate
Quotation Premium in Rupee terms. Outstanding position in USD terms
Type of option Premium styled European Call and Put options
Tick size 0.25 paisa or INR 0.0025
Trading hours Monday to Friday (9:00 a.m. to 5:00 p.m.)
Available contracts Three serial monthly contracts followed by three quarterly contracts of the cycle March/June/September/December

Last trading day

Two working days prior to the last business day of the expiry month at 12 noon.

Strike price Minimum of twelve in-the-money, twelve out-of the-money and one near-the-money strikes would be provided for all available contracts

Strike interval 25 paise or INR 0.25
Final settlement day Last working day (excluding Saturdays) of the expiry month. The last working day would be taken to be the same as that for Interbank Settlements in Mumbai. The rules for Interbank Settlements, including those for ‘known holidays’ and ‘subsequently declared holiday’ would be those as laid down by FEDAI.
Exercise at Expiry On expiry date, all open long in-the-money contracts, on a particular strike of a series, at the close of trading hours would be automatically exercised at the final settlement price and assigned on a random basis to the open short positions of the same strike and series
Position limits Clients
Higher of 6% of total open interest or USD 10 million across all contracts (both futures and options)

Trading Members
Higher of 15% of the total open interest or USD 50 million across all contracts (both futures and options)

Banks
Higher of 15% of the total open interest or USD 100 million across all contracts (both futures and options)

Clearing Member Level
The clearing member shall ensure that his own trading position and the positions of each trading member clearing through him is within the limits specified here

Initial margin The Initial Margin requirement would be based on a worst scenario loss of a portfolio of an individual client comprising his positions in options and futures contracts on the same underlying across different maturities and across various scenarios of price and volatility changes. In order to achieve this, the price range for generating the scenarios would be 3.5 standard deviation and volatility range for generating the scenarios would be 3%. The sigma would be calculated using the methodology specified for currency futures in SEBI circular no. SEBI/DNPD/Cir-38/2008 dated August 06, 2008 and would be the standard deviation of daily logarithmic returns of USD-INR futures price. For the purpose of calculation of option values, Black-Scholes pricing model would be used. The initial margin would be deducted from the liquid net worth of the clearing member on an online, real time basis.
Extreme loss margin Extreme loss margin equal to 1.5% of the Notional Value of the open short option position would be deducted from the liquid assets of the clearing member on an on line, real time basis. Notional Value would be calculated on the basis of the latest available Reserve Bank Reference Rate for USD-INR
Calendar spreads A long currency option position at one maturity and a short option position at a different maturity in the same series, both having the same strike price would be treated as a calendar spread. The margin for options calendar spread would be the same as specified for USD-INR currency futures calendar spread. The margin would be calculated on the basis of delta of the portfolio in each month. A portfolio consisting of a near month option with a delta of 100 and a far month option with a delta of – 100 would bear a spread charge equal to the spread charge for a portfolio which is long 100 near month currency futures and short 100 far month currency futures. 
Net Option Value The Net Option Value is the current market value of the option times the number of options (positive for long options and negative for short options) in the portfolio. The Net Option Value would be added to the Liquid Net Worth of the clearing member. Thus, mark to market gains and losses would not be settled in cash for options positions.
Settlement of Premium

Premium would be paid in by the buyer in cash and paid out to the seller in cash on T+1 day. Until the buyer pays in the premium, the premium due shall be deducted from the available Liquid Net Worth on a real time basis.

Mode of settlement Cash settled in Indian Rupees
 
 

 
  
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