A study of Foreign Exchange and Risk Management

This study on foreign exchange and its risk management is referred to as Foreign exchange is the
money denominated in the currency of another nation or group of nations. Any person who exchanges
money denominated in his own nations currency for money denominated in another nations currency
acquires foreign exchange.

Foreign exchange market is a place where foreign exchanges are traded i.e. one currency is exchanged
for another. Foreign Exchange market is the largest financial market in the world from 1997 to
September 29, 2017, daily trading volume from Forex trading has surged from 5 billion to more than
5 trillion dollars. Now, daily turnover of over $5.2 trillion.

The foreign exchange market as we know it today originated in 1973. However, money has been
around in one form or another since the time of Pharaohs. The Babylonians are credited with the first
use of paper bills and receipts, but Middle Eastern moneychangers were the first currency traders who
exchanged coins from one culture to another. During the middle ages, the need for another form of
currency besides coins emerged as the method of choice. These paper bills represented a transferable
third-party payments of funds, making foreign currency exchange trading much easier for merchants
and traders and causing these regional economies to flourish.

The foreign exchange is the mechanism by which a person of firm transfers purchasing power form of
one country to another, obtains or provides credit for International trade transactions, and minimizes
exposure to foreign exchange risk. A foreign exchange transaction is an agreement between a buyer
and a seller that a given amount of one currency is to be delivered at a specified rate for some other
currency. A foreign exchange quotation or quote is a statement of willingness to buy or sell at an
announced rate. The foreign exchange market (forex, FX, or currency market) is a worldwide
decentralized over-the-counter financial market for the trading of currencies. Financial centers around
the world function as anchors of trading between a wide range of different types of buyers and sellers
around the clock, with the exception of weekends. The foreign exchange market determines the
relative values of different currencies. The primary purpose of the foreign exchange is to assist
international trade and investment, by allowing businesses to convert one currency to another
currency. For example, it permits a US business to import British goods and pay Pound Sterling, even
though the business's income is in US dollars. It also supports speculation, and facilitates the carry
trade, in which investors borrow low-yielding currencies and lend high-yielding currencies, and which
may lead to loss of competitiveness in some countries. In a typical foreign exchange transaction, a
party purchases a quantity of one currency by paying a quantity of another currency. The modern
foreign exchange market began forming during the 1970s when countries gradually switched to
floating exchange rates from the previous exchange rate regime, which remained fixed as per the
Bretton Woods system.

The foreign exchange market is unique because of

Its huge trading volume, leading to high liquidity

Its geographical dispersion
Its continuous operation that is 24 hours a day except weekends
The variety of factors that affect exchange rates

As such, it has been referred to as the market closest to the ideal of perfect competition,
notwithstanding currency intervention by central banks. According to the Bank for International
Settlements, as of April 2010, average daily turnover in global foreign exchange markets is estimated
at $3.98 trillion, a growth of approximately 20% over the $3.21 trillion daily volume as of April 2007.

The $3.98 trillion break-down is as follows:

$1.490 trillion in spot transactions

$475 billion in outright forwards
$1.765 trillion in foreign exchange swaps
$43 billion currency swaps
$207 billion in options and other products

The study of any of the trading through the civilized world everything is valued in money, the root of
all pricing. Foreign exchange rates affect every tick of time, not just financial market. Exchange rate
movement can be significant for companies engaged in international trading, Exposed to revenues and
costs in foreign currency, or completing with foreign firms. After years if a relatively Fixed exchange
rate regime where the government would announce exchange rates daily, Asian countries, particularly
Thailand, woke up one day and found their currency floating. And end to the fixed currency regime
disrupted capital flow and put up local interest rate in short run leading to fell blow financial economic
crisis. Most people are deeply shocked at the high volatility of floating exchange rates. The results
were what began as turn oil in the currency market will have a serious impact on inflation,
employment, investment and economic growth.

The Foreign Exchange Market

The major currencies today move independently from other currencies. The currencies are traded by
anyone who wishes. This has caused a recent influx of speculation by banks, hedge funds, brokerage
houses and individuals. Central banks intervene on occasion to move or attempt to move currencies
to their desired levels. The underlying factor that drives todays Forex markets, however, is supply
and demand. The free-floating system is ideal for todays Forex markets.

The simple definition of Foreign Exchange is the exchange of one currency for another. The foreign
exchange market allows Companies, Banks and individuals to buy and sell foreign currency. Unlike
other financial market, the foreign exchange market has no single location-trading is done globally via
telephone and computer links. The forex market is huge, the trading volume is in excess of 1.9 trillion
USD per day, providing the greatest liquidity to the investors.

In the past small investors have limited access to the lucrative forex market. The interbank market is
no longer the exclusive domain of large players. Technological leaps (such as state of the art deal boo
FX2 trading software) have opened up this exciting market to small speculations. Real-time interbank
dealing rates allow the trader to place a buy or sell order and see it executed within a fraction of a
second.

There are always buyers and sellers in the forex market. The market absorbs trading volumes. A trader
is never struck in a position due to a lack of market interest, volume and/or liquidity.

When companies conduct business across borders, they must deal in foreign currencies. Companies
must exchange foreign currencies for home currencies when dealing with receivables, and vice versa
for payables. This is done at the current exchange rate between the two countries. Foreign exchange
risk is the risk that the exchange rate will change unfavorably before the currency is exchanged.

An over-the-counter market where buyers and sellers conduct foreign exchange transactions. The
Forex market is useful because it helps enable trade and transactions between countries, and it also
allows an investment opportunity for risk seekinginvestors who don't mind engaging in speculation.
Individuals who trade in the Forex market typically look carefully at a country's economic and political
situation, as these factors can influence the direction of its currency. One of the unique aspects of the
Forex market is that the volume of trading is so high, partially because the units exchanged are so
small.

The Forex, and also known as "The Foreign Exchange" market exists wherever one currency is traded
for another. It's the largest financial market in the world. Simply if we compare the New York Stock
Exchange trades vs. changing hands in forex, we will discover Forex market is a lot of times larger
than both Equity and Treasury markets combined.

There are more and less popular pairs of exchange in the forex market. Euro Dollar is one of the most
important pairs and you are likely to see it written in the form of EUR/USD on all forex display
screens. There are of course other tradable pairs such as GPB/USD (British Pound/ American dollar),
USD/JPY (American dollar/Japanese Yen), and USD/CHF (American dollar/Swiss Franc). Yet, they
are far less popular than the EUR/USD pair.

Foreign currency exchange, or Forex, is the largest financial market in the world. It is sometimes also
referred to as the FX market. Traders speculate on the values of currencies, and they profit from
accurate predictions in exchange rates. The Forex market has many characteristics that differentiate it
from the trading process of other markets. But ultimately, the Forex market is a volatile, auction-based
system not unlike the stock market and other financial markets.

Foreign exchange rates affect every walk of life, not just financial market. Exchange rate movement
can be significant for companies engaged in international trading, Exposed to revenues and costs in
foreign currency, or completing with foreign firms. After years if a relatively Fixed exchange rate
regime where the government would announce exchange rates daily, Asian countries, particularly
Thailand, woke up one day and found their currency floating.

And end to the fixed currency regime disrupted capital flow and put up local interest rate in short run
leading to fell blow financial economic crisis. Most people are deeply shocked at the high volatility of
floating exchange rates. The results were what began as turn oil in the currency market will have a
serious impact on inflation, employment, investment and economic growth. Many wonder how can
one live with a floating currency regime.

The Foreign Exchange Market Today

The major currencies today move independently from other currencies. The currencies are traded by
anyone who wishes. This has caused a recent influx of speculation by banks, hedge funds, brokerage
houses and individuals. Central banks intervene on occasion to move or attempt to move currencies
to their desired levels. The underlying factor that drives todays Forex markets, however, is supply
and demand. The free-floating system is ideal for todays forex. The forex exchange market dwarfs
the combined operations of the New York, London, Tokyo futures and stock exchanges. Daily
turnover on the spot market is approximately US$ 1.9 trillion per day.

Spot transactions and forward outright FX trading takes place in the inter-bank market. 51% of the
market is in spot FX transactions, followed by 32% in currency swap transactions. Forward outright
FX transactions represent another 5% of this daily turnover. Options on inter-bank FX transactions
making up another 8%. Therefore the inter-bank market accounts for 96% of the global foreign
exchange market, with the remaining 4% being divided among all the global futures exchanges.
The role of Forex in the Global Economy

Overtime, the foreign exchange market has been an invisible hand that guides the sale of goods,
services and raw materials on every corner of the globe. The forex market was created by necessity.
Traders, bankers, investors, importers and exporters recognized the benefits of hedging risk, or
speculating for profit. The fascination with this market comes from its sheer size, complexity and
almost limitless reach of influence.

Need of the study

To find the suitable measure of the exchange market pressure under the managed float system of
exchange rates in India and the excess demand for domestic currency is removed by changes in the
exchange rates and the money supply. To study how risk assessment can be done when Foreign
Exchange is traded.

Objective of the study

This project attempt to study the Foreign Exchange Market, the main purpose of this study is

To get a better idea about the movement of foreign currency in the foreign exchange market.
To study how the currency movement can be assessed by the statistical tools and can be
predicted how the market reacts for the flow of currency.
To study the functioning and structure of foreign market.
To study the exchange rate determination.
To evaluate critically exchange control methods.
To show volatility of foreign currency.

Research Methodology
Sources of data

For the preparation of any project report the collection of relevant data is very much essential there
are basically two board methods for collecting data, which are followed in a new report these methods
are

1. Primary data.
2. Secondary data.

Primary data is collected by meeting the concerned people through consultation of a personnel
observation or by Interviewing.

Secondary data is collected from online sites: NSEINDIA, FX MARKET TRACKER and X-RATES.
Sample

From different currencies the samples are USD, GBP, EUR and JPY.

USDINR - US Dollar.

GBPINR - British Pound.

EURINR - Euro.

JPYINR - Japanese Yen.

Sample size
Only four countries currencies are selected.

Statistical Tools

Statistical analysis in FOREX trading and risk assessment will analyze the movement of price, and
price evolution. Since there are only two ways price can behave:

Mean reverting or Trending

Random and Deterministic

Period of study

The period of study consists of 45 days

Scope of the study

Let us say that the businessman who operates in more than one country needs to understand not only
the mechanism of the foreign exchange system, but also why changes in monetary values occur and
how to cope with them. Foreign exchange is the monetary mechanism by which transactions in two or
more currencies are affected. The development of foreign exchange practices and procedures is similar
to that of internal monetary systems. In the beginning, trade took place on a barter basis. That had an
obvious disadvantage: each of the parties in a transaction had to have something the other wanted. The
basis of the alternative, a monetary exchange system, is a material that has an intrinsic value that is
relatively stable and so is wanted by both parties in a transaction.

With the development of nations, each with its own monetary system, and international trade, a foreign
exchange mechanism became necessary and was developed. By means of foreign exchange, goods
produced in one country can be purchased in another country. Regardless of its direction, such an
international transaction must be denominated in a currency other than that of either the seller or buyer;
that is, one party to the transaction must either buy or sell a foreign currency. It does so through the
international banking system, and the result is a foreign exchange transaction. The problem that then
arises is convertibility, or the relative values of two different currencies. Methods and procedures that
have been developed by central banks and internal banking systems are the means of effecting actual
foreign exchanges. Commercial transactions, in turn, are effected through the banking system.

Limitations

The study was limited to a foreign currency.

The data is compared and analyzed on the basis of performance of the forex currency rates
over the past months.
It was very difficult to obtain the date regarding the currency rates yielded by USDINR,
GBPINR, EURINR and JPYINR.