AMITY GLOBAL

BUSINESS SCHOOL Noida

MBA
Currency Future
Mr. Sachin Rohatgi

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AMITY GLOBAL
BUSINESS SCHOOL Noida

Hedging :
Using a futures position to offset a natural risk
exposure.

Speculating:
Using a futures position to create a risk exposure in an
attempt to profit from that risk.

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BUSINESS SCHOOL Noida
Example of Hedging
Assume a financial institution who holds several long
term fixed rate debentures .
What is the risk exposure ?
What should be a hedging strategy?

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BUSINESS SCHOOL Noida
Example of Speculating
Assume you think that crude oil prices are going to
rise over the next couple of months.
Here you decide to purchase (go long) Reliance
petroleum futures contracts that expire in 3 months.

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AMITY GLOBAL
BUSINESS SCHOOL Noida
Hedging with future contracts

Help reduce risk from areas where you dont have a

competitive advantage and allow you to focus on
risks where you do have an advantage.
Generally low cost
Reduces upside risk as well as downside risk.
May not be a perfect hedge.

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BUSINESS SCHOOL Noida
Speculating with future contracts

Provide tremendous Leverage potential.

Typically liquid markets
May help diversify portfolio
Leverage can also work against us.
Zero Sum game.

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BUSINESS SCHOOL Noida

Currency can be traded in the following three

platforms:

a) Spot market
b) Forwards market
c) Future market

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BUSINESS SCHOOL Noida

Spot market
This market involves the currency conversion at the
current price.
For Example you are going on a foreign trip to UK
now you need British pounds to spend in UK. So here
in India you get your rupees converted into British
pound at a current rate.
You convert your rupees into British pound through
Authorised dealer.
Bank is the biggest Authorised dealer.
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BUSINESS SCHOOL Noida

Forward Market
In this market basically exporters and Importers
hedge themselves against the currency fluctuation
risk.
For Example you are an IT company and will be
receiving $500,000 at the end of this year. Spot rate
for currency conversion is 1$ = 60.Now you have a
fear that the currency rate at the end of the year can
be 1$ =50.
Suppose if this happens at the end of the year,then
you are exposed to currency risk.
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BUSINESS SCHOOL Noida

Now in this case you go the bank and ask for signing
a forward contract of selling $500,000 @ of 1 $=
Rs.60
Now once you entered with the bank in a forward
contract you will be receiving dollar @ of 1$ =
Rs.60, irrespective of the spot price.( It may be more
than Rs.60 or less than Rs.60)
Bank will charge a commission or fee for this
service.

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BUSINESS SCHOOL Noida

Future Market
A currency future, also known as FX 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.
This is same as forward market only with the difference that in
forward contract there will be an exchange of currencies
whereas in futures it is cash settled.
It is only a profit loss calculation.
Forwards are traded OTC whereas futures are traded in
exchange.
In India futures are traded in NSE and MCX.

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BUSINESS SCHOOL Noida

Currency Futures Market

On NSE the price of a future contract is in terms of
INR per unit of other currency e.g. US Dollars.
Currency future contracts allow investors to hedge
against foreign exchange risk. Currency Derivatives are
available on four currency pairs viz. US Dollars
(USD), Euro (EUR), Great Britain Pound (GBP)
and Japanese Yen (JPY).
They are used by MNCs to hedge their currency
positions, and by speculators who hope to capitalize on
their expectations of exchange rate movements.
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BUSINESS SCHOOL Noida

The contracts can be traded by firms or individuals

through brokers on the trading floor of an exchange
(e.g. National Stock Exchange).
Participants in the currency futures market need to
establish and maintain a margin when they take a
position.
AMITY GLOBAL
BUSINESS SCHOOL Noida

Currency Futures Market

Speculators often sell currency futures when they

expect the underlying currency to depreciate, and vice
versa.
AMITY GLOBAL
BUSINESS SCHOOL Noida

Currency Futures Market

Currency futures may be purchased by MNCs to

hedge foreign currency payables, or sold to hedge
receivables.
AMITY GLOBAL
BUSINESS SCHOOL Noida

Currency Futures Market

Holders of futures contracts can close out their

positions by selling similar futures contracts. Sellers
may also close out their positions by purchasing
similar contracts.
AMITY GLOBAL
BUSINESS SCHOOL Noida

Currency Futures Market

Most currency futures contracts are closed out

before their settlement dates.
Brokers who fulfill orders to buy or sell futures
contracts earn a transaction or brokerage fee in the
form of the bid/ask spread.
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BUSINESS SCHOOL Noida

Trading
The NSE trading system called 'National Exchange
for Automated Trading' (NEAT) is a fully
automated screen based trading system, which adopts
the principle of an order driven market.

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BUSINESS SCHOOL Noida

Settlement of future contracts on currency

Daily Mark-to-Market Settlement

The positions in the futures contracts for each
member is marked-to-market to the daily settlement
price of the futures contracts at the end of each trade
day.
The profits/ losses are computed as the difference
between the trade price or the previous days
settlement price, as the case may be, and the current
days settlement price.

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BUSINESS SCHOOL Noida

Settlement of future contracts on currency

The CMs who have suffered a loss are required to pay

the mark-to-market loss amount to NSCCL which is
passed on to the members who have made a profit.
This is known as daily mark-to-market settlement.

CMs are responsible to collect and settle the daily

mark to market profits/losses incurred by the TMs
and their clients clearing and settling through them.

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BUSINESS SCHOOL Noida

Settlement of future contracts on currency

On the expiry of the futures contracts, NSCCL marks

all positions of a CM to the final settlement price and
the resulting profit / loss is settled in cash.

The final settlement profit / loss is computed as the

difference between trade price or the previous days
settlement price, as the case may be, and the RBI
reference rate of the such futures contract on the last
trading day.
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BUSINESS SCHOOL Noida

Settlement of future contracts on currency

On expiry day unlike equity derivatives, you cannot

trade on currency derivatives till the end of the day
(5pm). You can trade only till 12.15pm in the
afternoon, which is when the contracts expire.
If you don't square off the contract by 12.15pm, the
settlement price for all the expired contracts will be
based on the RBI reference rate for the expiry
date which is announced by 12.30pm.

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BUSINESS SCHOOL Noida

Settlement of future contracts on currency

Final settlement loss/ profit amount is debited/

credited to the relevant CMs clearing bank account on
T+2 day (T= last trading day).
Open positions in futures contracts cease to exist after
their last trading day.

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BUSINESS SCHOOL Noida

Theoretical daily settlement price for unexpired

futures contracts, which are not traded during the last
half an hour on a day, shall be the price computed as
per the formula:
F0=S0 e ( r-rf) T
F0 = Theoretical futures price
S0 = Value of the underlying
r = Cost of financing (using continuously
compounded interest rate)
rf = Foreign risk free interest rate
T = Time till expiration
e = 2.71828 24
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BUSINESS SCHOOL Noida

Rate of interest (r) may be the relevant MIFOR rate

or such other rate as may be specified by the Clearing
Corporation from time to time.
Foreign risk free interest rate is the relevant LIBOR
rate or such other rate as may be specified by the
Clearing Corporation from time to time.

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