Name - KARAN NAHAR Roll No. - 682 Room No.

- 34 Semester VI Project Presentation

INTRODUCTION

FEATURES AND TECHNICAL TERMINOLOGY HEDGING CASE STUDY

CONCLUSION

Currency

Futures is a type of Derivative Instrument

Derivative
Derivatives

Instrument:

are financial contracts whose value/price is dependent on the behavior of the price of one or more basic underlying assets. Financial derivatives are those assets whose values are determined by the value of some other assets, called as the underlying assets.

Derivative
Several

Instrument:

types of Derivative Contracts like

Forwards Futures Swaps

Options,

etc.

Futures:
A

futures contract is a standardized contract, traded on an exchange, to buy or sell a certain underlying asset or an instrument at a certain date in the future, at a specified price.

Futures:
When

the underlying asset is a commodity, e.g. Oil or Wheat, the contract is termed a commodity futures contract.
When

the underlying asset is an foreign currency exchange rate, the contract is termed a currency futures contract

Currency
It

Futures:

is a type of standardized futures contract, traded on a exchange, to buy or sell a certain underlying asset or an instrument at a certain date in the future, at a specified price, the underlying asset being the foreign currency exchange rate.

Currency
In

Futures:

other words, it is a contract to exchange one currency for another currency at a specified date and a specified rate in the future.

Standardized Forward Contracts Underlying asset is the Currency Exchange Rate Traded on an exchange Daily Marked-to-Market Feature (M to M) Stringent Margin Requirements High Liquidity Heavy Regulations Virtually no counter-party default risk

Long Position (F+) Contract to Buy Upside Betting Buyer thinks the prices will rise in future

Short Position (F-) Contract to Sell Downside Betting Seller thinks that prices will fall in future

Hedging Hedging Hedging

= Method for Managing Risk

= Averts or minimizes Risk

is defined as a technique designed to reduce or eliminate uncertainty.

Here

we will focus on Currency Risks, i.e. Uncertainty regarding Exchange Rate Changes

When

a firm is affected by Exchange Rate Changes, it is said to be facing Foreign Exchange Exposure.
Most

important type of Foreign Exchange Exposure is Transaction Exposure.

It

arises when a firm has known amount of FC payable/receivable, the HC equivalent of which is not known.

Transaction Exposure can be hedged via Currency Futures.

The

Steps to be followed are:

Company Receivable Afraid of Falling

US

Company Payable Afraid of Rising

US

Futures

$ Futures

Futures

$ Futures

SELL

BUY

BUY

SELL

No.

of Contracts = FC Exposure/Lot Size

For

Example, suppose a US Firm has 125,000 Receivable 3 months from now. Standard size of 1 contract is 12,500.
No.

of Contracts = 125,000/12,500 = 10 Contracts

The

Settlement on the date of Exposure takes 2 forms:

1.

Profit/Loss arising on squaring off Futures

2.

Settling the Payable/Receivable in the Spot Market

Finally after these 2 settlements, we determine whether we have been able to hedge ourselves or not. Hence, Futures is considered as an IMPERFECT HEDGE.

Company Company

Name: McLeod Russel India Ltd. (MRIL)

Profile: Worlds Largest Tea Manufacturer and Exporter. Being an Exporter, it has large amounts of FC Receivable.
The

Company uses Currency Futures to speculate and hedge on its Foreign Currency Receivable.

Scenario:

On 10/01/2011, MRIL exported 80,000 Kgs of Tea to Swansea Tea Limited in USA. It had $700,000 receivable on 10/04/2011. The spot rate prevailing in the market on 10/01/2011 was INR 45.3818/$. The dollar futures maturing in April end are trading at INR 45.5300/$. On 10/04/2011 the spot rate prevailing in the market is INR 44.0747/$ whereas the dollars futures quote at INR 45.0400/$. The standard size of one futures contact is INR 250,000.

If

Company goes for Futures Cover: Since the company is afraid of $ falling, it should sell $ Futures @ INR 45.5300 / $ [F-]. This is basically a downside betting. The company has to short- sell 135 Contracts. Now when 10/04/11 arrives, it has made a gain on Futures selling. The gain = (45.5300-45.0400)*135*250000 = INR 16,537,500. Moreover it will sell $740,000 spot @ INR 44.0747 / $ getting INR 32,615,278. Thus overall receipt on 10/04/11 = INR 49,152,778.

If

Company does not go for Futures Cover:

The

Co. would have have to sell $740,000 spot @ INR 44.0747/$ getting INR 32,615,278.
Hence,

MRILs overall gain as a result of entering into futures contract = INR 16,537,500.
Thus,

Currency Futures helps a company to hedge against currency exchange fluctuations.