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Currency Derivatives FAQs

a) FOREX markets in India.

When did the FOREX market in India originated?

FOREX markets in India originated in the year 1978, when banks in India were permitted to undertake intra-day trade in foreign exchange.

Is the exchange rate of Indian Currency floated fully against US Dollar?

Initially the exchange rate was a fixed float against US Dollar, but it was in March 1992, when it was partially floated and then in 1993, fully floated, following the recommendations of the Report of the High Level Committee on Balance of Payments (Chairman: Dr. C. Rangarajan).

What are the platforms, where FOREX is traded in India?

Majority of the FOREX business happens on the Over-the-Counter (OTC) markets through Authorised Dealers, which are mainly banks (both public and private sector), full fledged money changers, co-operative and regional rural banks. Lots of volume business is also done by Inter-bank FOREX brokers.

On 29th Aug '08, Currency Futures have been launched in India by RBI-SEBI, which has rapidly come up as a prominent FOREX trading platform.

What are the factors that affect exchange rate of a currency?

Basically exchange rates are affected by the supply and demand by various market constituents which depends on factors like inflation, trade balance, economic and political scenarios.

What are sources of supply and demand in foreign exchange in Indian Markets?

Major sources of supply of foreign exchange are:
(i) receipts on account of exports
(ii) foreign direct investment (FDI)
(iii) portfolio investment
(iv) external commercial borrowings (ECB) and
(v) non-resident deposits.

Major sources of demand of foreign exchange are:
(i) payments on account of imports
(ii) amortisation of External Commercial Borrowings (including short-term trade
credits) and external aid
(iii) redemption of NRI deposits
(iv) outflows on account of direct and portfolio investment.

b) Currency Futures & Margin Requirements

1. What is Derivative?

A financial contract between two people or two parties that has a value determined by the price of something else (called the underlying). e.g. NIFTY Index Futures-It derives its value from the S&P NIFTY 50 index.

2. What is Currency Future contract?

Currency Future contract is a financial contract which has derived its value from an traded currency pair, which serves as its underlying asset. e.g. USD/INR Futures is an derivative product which has derived its value from USD/INR currency pair traded price in market or we can say that USD/INR is underlying asset. In this case there is no physical exchange of USD/INR pair but only notional amounts are traded and profits and losses are settled in cash. Currency Future contracts are standardized in terms of lots and delivery time. The only variable is the price, which is discovered by the market. They have different expiry validity and will expire after the completion of the specified tenure.

3. What is an "Underlying" and how is it different than "Contract"?

For example FUT-USDINR-27-Aug-2010, FUT-USDINR-28-Sep-2010 are "contracts" available for trading in currency futures having USDINR Exchange rate as "underlying". Similarly, FUT-EURINR-27-Aug-2010, FUT-EURINR-28-Sep-2010 are "contracts" available for trading in currency futures having EURINR Exchange rate as "underlying".

4. How is the Currency Futures contract defined?

USDINR future contract expiring on 27 Aug, 2009 is defined as "FUT-USDINR-27-Aug- 2009". Wherein, "Fut" stands for Futures as currency derivatives product, "USDINR" for underlying currency exchange rate and "27-Aug-2009" for the expiry date.

5. Usages of Currency Derivatives

Currency Derivatives can be put to used for following purposes:

  1. Hedging: Currency Derivatives can be utilized to protect the currency risk involved in any overseas business transaction (import, export, ECB, etc) to protect the business margins. e.g. An importer, who has to make a payment on a future date for the import purchases in USD, can buy USD for that future date, at rates prevailing in the market today. In this way he protects his business margins against exchange fluctuation risk.
  2. Speculation: Fluctuation in exchange rates can be utilized to make profit/loss from short term moves in the market depending on the news, technical analysis, etc.
  3. Arbitrage: the price Bid price of USDINR on NSE and Offer price on MCX-SX can be locked in to make profits.

6. What types of Currency Derivatives can be traded in India?

At the moment, Currency Futures, which was introduced in Aug '08 are the only currency derivatives contracts traded in India. Very soon exchanges are 'going to launch Currency Options also.

7. Who is eligible to trade in Currency Derivatives?

All Resident Indians as defined in section 2(v) of the Foreign Exchange Management Act, 1999 (FEMA, Act 42 of 1999) are eligible to trade in the Currency Derivatives segment. For participation by regulated entities, accord from respective regulators should be obtained.

8. What are the currencies in which we can trade in Currency Futures?

Currently, one can trade in USD/INR, EUR/INR, GBP/INR, JPY/INR.

9. How can one start trading/ hedging on Currency Futures platform? What are basic documents required for this purpose?

Client has to register a Know Your Client (KYC) form along with required documents with us to commence the trading/hedging activity on currency futures. The list of the documents is provided below:

DOCUMENTARY REQUIREMENTS FOR NON-INDIVIDUAL CLIENTS: Copies of the following documents may be obtained after due verification with the originals thereof

  • Copies of the balance sheet for the last 2 financial years (copies of annual balance sheet to be submitted every year)
  • Copy of latest share holding pattern including list of all those holding more than 5% in the share capital of the company, duly certified by the company secretary / Whole –time director / MD. (copy of updated shareholding pattern to be submitted every year)
  • Copies of the Memorandum and Articles of Association in case of a company / body incorporate / partnership deed in case of a partnership firm
  • Copy of the Resolution of board of directors approving participation in currency derivatives and naming authorized persons for dealing in currency derivatives.
  • Photographs of Partners / Whole time directors, individual promoters holding 5% or more, either directly or indirectly, in the shareholding of the company and of persons authorized to deal in currency derivatives.
  • Company PAN card and PAN card of directors
  • Copy of bank statement

DOCUMENTARY REQUIREMENTS FOR INDIVIDUAL CLIENTS: Copies of the following documents may be obtained after due verification with the originals thereof

  • Bank Signature Verification
  • Copy of a cancelled Cheque leaf / pass book / bank statement containing name of the constituent
  • Copy of Latest bank statement with name, address and account no. mentioned.
  • Identity Proof [PAN Card / Voters Card / Driving Licence / Passport]
  • Address Proof [Ration Card / Passport / Telephone Bill / Electricity Bill / Rent Agreement etc]
  • DEMAT A/C Proof

10. Do I have to pay the full contract value on placing orders in Currency futures?

No. client will be required to place a certain % of order value as margin (i.e. Initial Margin), while placing a buy/sell position in Currency futures. Therefore this product provides you leverage on the "Initial Margin" deposited by client. The details of margin requirement are mentioned in product specification.

11. How is the Initial Margin (IM) calculated on open position?

For example, you have open buy position in FUT-USDINR-28-Dec-2009 for 1 lot of 1000 qty @ Rs.50 and IM % for USDINR is 5%. In that case, margin at position level would be 1 * 1000 * 50 * 5% = Rs.2500/-.

12. What is meant by calendar spread?

Calendar spread means risk off-setting positions in contracts expiring on different dates in the same underlying.

E.g. , you take Buy position for 1 lot of FUT-USDINR-28-Sep-2010 @ Rs.50 and sell position for 1 lot of FUT-USDINR-28-Oct-2010 @ Rs.51. 1 lot of buy position in FUT- USDINR-27-Sep-2010 and 1 lot of sell position in FUT-USDINR-28-Oct-2010 form a spread against each other and hence are called "Spread Position". This spread position would be levied spread margin % for margin calculation instead of Initial Margin.

Contracts will be removed from the spread benefit 1 working day prior to the expiry of the near month contract. Therefore, client will have to provide full margin required on all position taken for positions forming a spread.

13. Can the orders be removed or modified?

Yes, client can modify or delete the orders, until it is not executed, from the trading work station either by him or by placing the order with designated dealers.

14. Can I put take profit and stop loss orders simultaneously with the trade orders?

Client can place orders for taking profits or for restricting the losses by putting “stop loss orders”, once the trade order has been executed, otherwise it there can be a case where “stop loss” or “take profit” orders are executed before the trade orders.

15. How is the profit or loss recognized for my orders? When are the margins released?

Once the trade executed has been squared off, the profit/loss is credited/ debited in the client’s trading limits.

Margins blocked on a trade position are released only after the Currency Future positions are squared off.

Net amount, after considering the following, is released:

  1. Margin blocked on Positions
  2. + Add margin released
  3. +/- Profit/Loss incurred on Square off
  4. - Applicable taxes.

16. What is meant by End of Day-Mark To Market (EOD MTM) margin?

Daily EOD MTM is a regulatory aspect of Currency futures Settlement Process. Every day the settlement of open Currency Futures position takes place at the Settlement Price declared by the exchanges for that day.

The Base price of the Open Positions is compared with the Settlement price and difference is cash settled the next day. In case of profit/loss in EOD MTM, Limits are increased/reduced by the amount of profit/loss net of applicable brokerage, taxes, statutory charges. The position is carried forward to the Next day at the previous trading day's Settlement price at which last EOD MTM was run.

Settlement price for all the contracts are provided by exchange after making necessary adjustment for abnormal price fluctuations. It is the weighted average price of the last half an hour trading on the exchange.

17. Is it compulsory to square off the position before expiry date of contract?

No. You need not square off your position till the contract expires. In case there is no instruction from client’s side, then position would be closed at the final settlement price as per the current regulations. The Final Settlement price shall be the Reserve Bank Reference Rate on the last trading day of such currency derivative contract, or as may be specified by the relevant authority from time to time. Margin blocked on such expired position will also be released and added into your trading limits after adjusting profit/loss, applicable brokerage, taxes and statutory levies on close out.

c) Usage of Currency futures for Hedging.

1. What are different spheres where currency futures can be used as hedging tool?

- Clients can use currency futures for hedging their exports and imports transactions by taking a buy/sell position for months in which remittances are to be made/ received. Particularly for small businesses it is boon as it has following advantages in comparison to OTC market (i.e. forward contracts booked with banks).

BENEFITS OF HEDGING IN CURRENCY FUTURES PLATFORM
S. No. PARTICULARS HEDGING WITH FRR FOREX (CURRENCY FUTURES PLATFORM) HEDGING WITH BANKS (FORWARD CONTRACTS)
1. NARROW MARKET SPREADS Very narrow Bid-Ask spreads available to all clients Banks provide wide bid- ask spreads e.g. 3-4 paisa spread
2. BETTER BROKERAGE FRR FOREX charges a very minimal brokerage of 1 paisa/USD Banks charge very huge brokerage of 3-4 paisa/ USD
3. NO TRANSACTION CHARGES Apart from brokerage there are no other charges Banks charge Collection & Cancellation Charges
4. ENEFIT OF NCIAL PREMIUM / IMPLI DISCOUNT Benefit of Premium & Discount on currency is passed to client Benefit of Premium & Discount on currency is NOT passed to client
5. MARGIN REQUIREMENTS FRR FOREX accepts margins both in cash & fixed Deposit It is as low as 5%-8% of contract value Banks too accept margin in Cash & Fixed Deposit
6. MINIMUM DOCUMENTATION No Documentation required for booking futures contracts Banks require either import/ export bills to book forward contracts
7. EASE OF EXECUTION Booking & Cancellation at your own wish Banks generally don't allow cancellation of forward contracts
8. EXTENDED TRADING HOURS 9:00 A.M. to 5:00 P.M. Market Availibilty 9:00 A.M. to 4:30 P.M. Market Availibilty
9. SMALL LOT SIZE ORDERS Minimum lot size of 1000 USD, 1000 EUR, 1000 GBP Minimum lot size of USD 1 mio, EUR 1 mio, GBP 1 mio

- Commodity traders can use currency futures to hedge the USDINR risk involved in the Gold and Crude prices traded on bourses in India.

- Money changers and remitters can hedge their currency stock by using currency futures.

- Any remittances made or received from abroad in form of salary, commission, remuneration, royalty can also be hedged using currency futures.

- Loans for education, remittance of living expenses can also be hedged.

d) Front Office & Back Office Support

1. What kind of back office support will I be provided?

Clients will be provided e-contracts bearing digital signatures at the end of each day and physical contract notes (on request only). Margin Statement will also be provided on the days on which trades have been done. Ledger balance will also be provided at the end of each month through e-mails only.

2. Can I trade in Currency Derivative Segment On-line?

Yes, you can trade in this segment online, for which you have to place request with us and you will provided connectivity subject to charges.

e) Settlement Obligation in Futures

1. What kind of Settlement obligation will I have in Currency futures?

You can have following two Settlement obligations in Currency futures market:
i. Daily Settlement Obligations:

Daily settlement obligations arise due to the following:
. Pay-Out/Pay-In due to Profit and loss on squared off position.
. Pay-Out/Pay-In due to Profit and loss on EOD MTM of open position
. Pay-In due to Brokerage and statutory levies
. Pay-In due to applicable Taxes

i. Daily Settlement Obligations:

. Pay-Out/Pay-In due to Profit and loss on close out
. Pay-In due to Brokerage and statutory levies on close out
. Pay-In due to applicable Taxes

2. Will pay-in and pay-out run separately or on a net basis?

The pay-in and pay-out is calculated on net basis, i.e. amount would be first internally adjusted against each other and only net amount would either be recovered or paid.

f) Charges

What are the statutory charges charged in this segment?

The statutory charges are as follows:

  1. Service Tax @ 10.33% of brokerage charged.
  2. Stamp Duty @ .002% of the contract value.
  3. SEBI Transaction Charges @ .0002% contract value.