Overview of Currency Market & Strategies Using in Currency Futures

Overview Of Currency Market & Strategies Using in Currency Futures
A Project Report On OVERVIEW OF CURRENCY MARKET & STRATEGIES USING IN CURRENCY FUTURES
For The Partial Fulfillment for the Award Of Degree Of .B.B.A Vir Narmad South Gujarat University, Surat
Guided By: Mrs. Cheta Vashi
Submitted By: Mr. Gajera Ankit
-:SUBMITTED TO:BHAWAN MAHAVIR COLLAGE OF BUSSINESS ADMINISTRATION Surat, 2011 2012.
Bhagwan Mahavir Collage of Business Administration
DECLARATION
I, the undersigned hereby declare that the project report on Overview Of Currency Market & Strategies Using in Currency Futures is prepared and submitted by me to V.N.S.G.U, Surat towards partial fulfillment of the Bachelor of Business Administration. This is my original work and the report prepared there in is based on the knowledge and the information gathered by me during my project work. I further declare that to the best of my knowledge and belief, this project has not been submitted to the same or any other university for the award of any other degree, diploma or any other equivalent course.
GAJERA ANKIT S.
ACKNOWLEDGEMENT
On this occasion, I would like to thank Bhawan Mahavir Collage of Business Administration and all the faculties, for the learning experience provided throughout the BBA course. I thank my project guide Mrs. Cheta Vashi who guided me throughout project preparation. I would also like to thank all the faculty members of The Bhawan Mahavir Collage of Business Administration who supported me by giving their precious time and guiding me in the right direction. This project report of mine would have not been possible without their support.
At the end I would like to thank all my friends and family members who gave me mental support for completing my project.
GAJERA ANKIT S. B.B.A.
Index
Chapter No. 1 2 Particular Introduction Of Currency Markets Foreign Exchange Markets 1. Foreign Exchange Markets In India 2. Market Size And Liquidity 3. Market Participants Currency Derivatives 1. Foreign Exchange 2. Volumes In Currency Market 3. Currency Market A 24 Hour Market 4. The Major Currencies In The World 5. Currency Pairs 6. Base Currency & Term Currency 7. Appreciation And Depreciation Of Currency Exchange Happen 8. How Is Currency Markets Classified? 9. Factors That Determine Foreign Exchange Rates 10. The Trading Strategies Used In Currency Trading 11. Types Of Traders In The Derivatives Markets Exchange Traded Currency Futures 1. Currency Future Contract: 2. Difference Between Currency Forwards And Exchange 3. 4. 5. 6. 5 6 Traded Futures? Limitations Of Futures Advantages Of Future The Order Management Conditions In Currency Trading Contract Specifications Of Currency Futures Contracts Of 44 46 47 47 47 49 50 62 63 65 69 Page No. 6 8 9 11 13 18 19 19 19 20 21 21 22 24 26 28 30 32 33 34 38 38 39 40
7 8
Usd Research Methodology Data Analysis& Interpretation Strategies Using Currency Futures 1. Speculation In Futures Markets 2. Long Position In Futures 3. Short Position In Futures 4. Hedging Using Currency Futures 5. Trading Spreads Using Currency Futures. 6. Arbitrage Findings Suggestions & Recommendations
Overview Of Currency Market & Strategies Using in Currency Futures 9 Conclusion Glossary Items Bibliography 73 75 76
Chapter-1 Introduction Of Currency Markets
Introduction of Currency Markets

The foreign exchange market or Currency market is a global, worldwide decentralized over-the-counter financial market for trading 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 aUS business to import British goods and pay Pound Sterling, even though the businesss income is in US dollars. It also supports direct speculation in the value of currencies, and the carry trade, speculation on the change in interest rates in two currencies. 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 after three decades of government restrictions on foreign exchange transactions (the Bretton Woods system of monetary management established the rules for commercial and financial relations among the worlds major industrial states after World War II), when countries gradually switched to floating exchange rates from the previous exchange rate regime, which remained fixed as per the Bretton Woods system
Chapter 2. Foreign Exchange Markets
1. Foreign Exchange Markets in India

Historically the value of goods was expressed through some other goods, for example a barter economy where individuals exchange goods. The obvious disadvantages of such a system encouraged establishment of more generally accepted and understand means of goods exchange long time ago in history - to set a common scale of value. In different places everything from teeth to jewelry has served this purpose but later metals, and especially gold and silver, were introduced as an accepted means of payment, and also a reliable form of value storage. Originally, coins were basically minted from the metal, but stable political systems introduced a paper form of IOUs (I owe you) which gained wide acceptance during the middle Ages. Such paper IOUs became the basis of our modern currencies. Before First World War most central banks supported currencies with gold. Even though banknotes always could be exchanged for gold, in reality this did not happen that often, developing an understanding that full reserves are not really needed. Sometimes huge supply of banknotes without gold support led to giant inflation and hence political instability. To protect national interests foreign exchange controls were introduced to demand more responsibility from market players. Closer to the end of World War II, the Bretton Woods agreement was signed as the initiative of the USA in July 1944. The Bretton Woods Conference rejected John Maynard Keynes suggestion for a new world reserve currency in favor of a system built on the US dollar. Other international institutions such as the IMF, the World Bank and GATT (General Agreement on Tariffs and Trade) were created in the same period as the emerging victors of WW2 searched for a way to avoid the destabilizing monetary crises which led to
Overview Of Currency Market & Strategies Using in Currency Futures the war. The Bretton Woods agreement resulted in a system of fixed exchange rates that partly reinstated the gold standard, fixing the US dollar at USD35/oz and fixing the other main currencies to the dollar - and was intended to be permanent. The Bretton Woods system came under increasing pressure as national economies moved indifferent directions during the sixties. A number of realignments kept the system alive for along time, but eventually Bretton Woods collapsed in the early seventies following President Nixons suspension of the gold convertibility in August 1971. The dollar was no longer suitable as the sole international currency at a time when it was under severe pressure from increasing US budget and trade deficits. The following decades have seen foreign exchange trading develop into the largest global market by far. Restrictions on capital flows have been removed in most countries, leaving the market forces free to adjust foreign exchange rates according to their perceived values But the idea of fixed exchange rates has by no means died. The EEC (European Economic Community) introduced a new system of fixed exchange rates in 1979, the European Monetary System. This attempt to fix exchange rates met with near extinction in 1992-93, when pent-up economic pressures forced devaluations of a number of weak European currencies. Nevertheless, the quest for currency stability has continued in Europe with the renewed attempt to not only fix currencies but actually replace many of them with the Euro in2 0 0 1 . The lack of sustainability in fixed foreign exchange rates gained new relevance with the events in South East Asia in the latter part of 1997, where currency after currency was devalued against the US dollar, leaving other fixed exchange rates, in particular in South America, looking very vulnerable. But while commercial companies have had to face a much more volatile currency environment in recent years, investors and financial institutions have found a new playground. The size of foreign exchange markets now dwarfs any other investment market
Overview Of Currency Market & Strategies Using in Currency Futures by a large factor. It is estimated that more than USD 3,000 billion is traded every day, farmore than the world's stock and bond markets combined. Forex (Foreign Exchange) is the international financial market used for trade of world currencies. It has been working since 70s of the 20th century - from the moment when the biggest world nations decided to switch from fixed exchange rates to floating ones. Daily volume of Forex trade exceeds 4 trillion United States dollars, and this number is always growing .Main currency for Forex operations is the United States dollar (USD). Unlike stock exchanges, Forex market doesn't have any fixed schedule or operating hours -it's open 24 hours per day, 5 days per week from Monday to Friday, since buy/sell orders are performed by world banks any time during the day or night (some banks even work on Saturdays and Sundays). Just like any other exchange, Forex market is driven by supply and demand of a particular tool. For instance, there are buyers and sellers for "Euro vs. US dollar". Exchange rates at Forex are changing constantly, and fluctuations may happen many times per second - this market is very liquid.
2. Market Size and liquidity

The foreign exchange market is the most liquid financial market in the world. Traders include large banks, central banks, institutional investors, currency speculators, corporations, governments, other financial institutions, and retail investors. The average daily turnover in the global foreign exchange and related markets is continuously growing. According to the2010 Triennial Central Bank Survey, coordinated by the Bank for International Settlements, average daily turnover was US$3.98 trillion in April 2010 (vs. $1.7 trillion in 1998). Of this$3.98 trillion, $1.5 trillion was spot foreign exchange transactions and $2.5 trillion was traded in outright forwards, FX swaps and other currency derivatives.
Overview Of Currency Market & Strategies Using in Currency Futures Trading in the UK accounted for 36.7% of the total, making UK by far the most important global center for foreign exchange trading. In second and third places, respectively, trading in the USA accounted for 17.9%, and Japan accounted for 6.2%. Turnover of exchange-traded foreign exchange futures and options have grown rapidly in recent years, reaching $166 billion in 2010 (double the turnover recorded in April 2007).Exchange-traded currency derivatives represent 4% of OTC foreign exchange turnover. FX futures contracts were introduced in 1972 at the Chicago Mercantile Exchange and are actively traded relative to most other futures contracts. Most developed countries permit the trading of FX derivative products (like currency futures and options on currency futures) on their exchanges. All these developed countries already have fully convertible capital accounts. A number of emerging countries do not permit FX derivative products on their exchanges in view of controls on the capital accounts. The use of foreign exchange derivatives is growing in many emerging economies. Countries such as Korea, South Africa, and India have established currency futures exchanges, despite having some controls on the capital account. Top 10 currency traders
[7]
Foreign
exchange
trading
% of overall volume, May 2011
Rank Name 1 Deutsche Bank 2 Barclays Capital 3 UBS AG 4 Citi 5 JPMorgan 6 HSBC 7 Royal Bank of Scotland 8 Credit Suisse 9 Goldman Sachs 10 Morgan Stanley
increased by 20% between 2007 Market share and 2010 and has more than 15.64% 10.75% doubled since 2004. The increase 10.59% in turnover is due to a number of 8.88% factors: the growing importance of 6.43% 6.26% foreign exchange as an asset class, 6.20% the increased trading activity of 4.80% high-frequency traders, and the 4.13% 3.64% emergence of retail investors as an
important market segment. The growth of electronic execution methods and the diverse selection of execution venues have lowered transaction costs, increased market liquidity, and attracted greater participation from many customer types. In particular, electronic trading via online portals has made it easier for retail traders to trade in the foreign
Overview Of Currency Market & Strategies Using in Currency Futures exchange market. By 2010, retail trading is estimated to account for up to 10% of spot FX turnover, or $150 billion per day
3. Market participants
Unlike a stock market, the foreign exchange market is divided into levels of access. At the top is the inter-bank market, which is made up of the largest commercial banks and securities dealers. Within the inter-bank market, spreads, which are the difference between the bids and ask prices, are razor sharp and not known to players outside the inner circle. The difference between the bid and ask prices widens (for example from 0-1 pip to 1-2 pips for a currencies such as the EUR) as you go down the levels of access. This is due to volume. If a trader can guarantee large numbers of transactions for large amounts, they can demand a smaller difference between the bid and ask price, which is referred to as a better spread. The levels of access that make up the foreign exchange market are determined by the size of the "line" (the amount of money with which they are trading). The top-tier interbank market accounts for53% of all transactions. From there, smaller banks, followed by large multi-national corporations (which need to hedge risk and pay employees in different countries), large hedge funds, and even some of the retail FX market makers. According to Galati and Melvin, Pension funds, insurance companies, mutual funds, and other institutional investors have played an increasingly important role in financial markets in general, and in FX markets in particular, since the early 2000s. (2004) In addition, he notes, Hedge funds have grown markedly over the 20012004 period in terms of both number and overall size. Central banks also participate in the foreign exchange market to align currencies to their economic needs.
A. Banks
The inter bank market caters for both the majority of commercial turnover and large amounts of speculative trading every day. Many large banks may trade billions of dollars, daily. Some of this trading is undertaken on behalf of customers, but much is conducted by proprietary desks, which are trading desks for the bank's own account. Until recently,
Overview Of Currency Market & Strategies Using in Currency Futures foreign exchange brokers did large amounts of business, facilitating interbank trading and matching anonymous counterparts for large fees. Today, however, much of this business has moved on to more efficient electronic systems. The broker squawk box lets traders listen in on going interbank trading and is heard in most trading rooms, but turnover is noticeably smaller than just a few years ago. B. Commercial Companies An important part of this market comes from the financial activities of companies seeking foreign exchange to pay for goods or services. Commercial companies often trade fairly small amounts compared to those of banks or speculators, and their trades often have little short term impact on market rates. Nevertheless, trade flows are an important factor in the long-term direction of a currency's exchange rate. Some multinational companies can have an unpredictable impact when very large positions are covered due to exposures that are not widely known by other market participants. C. central banks National central banks play an important role in the foreign exchange markets. They try to control the money supply, inflation, and/or interest rates and often have official or unofficial target rates for their currencies. They can use their often substantial foreign exchange reserves to stabilize the market. Nevertheless, the effectiveness of central bank "stabilizing speculation" is doubtful because central banks do not go bankrupt if they make large losses, like other traders would, and there is no convincing evidence that they do make a profit trading. D. Forex fixing Forex fixing is the daily monetary exchange rate fixed by the national bank of each country. The idea is that central banks use the fixing time and exchange rate to evaluate behavior of their currency. Fixing exchange rates reflects the real value of equilibrium in Bhagwan Mahavir Collage of Business Administration
Overview Of Currency Market & Strategies Using in Currency Futures the forex market. Banks, dealers and online foreign exchange traders use fixing rates as a trend indicator. The mere expectation or rumor of central bank intervention might be enough to stabilize a currency, but aggressive intervention might be used several times each year in countries with a dirty float currency regime. Central banks do not always achieve their objectives. The combined resources of the market can easily overwhelm any central bank. Several scenarios of this nature were seen in the 199293 ERM collapse and in more recent times in Southeast Asia.
E. Hedge fund as speculators

About 70% to 90% of the foreign exchange transactions are speculative. In other words, the person or institution that bought or sold the currency has no plan to actually take delivery of the currency in the end; rather, they were solely speculating on the movement of that particular currency. Hedge funds have gained a reputation for aggressive currency speculation since 1996. They control billions of dollars of equity and may borrow billions more, and thus may overwhelm intervention by central banks to support almost any currency, if the economic fundamentals are in the hedge funds' favor. F. Investment management firms Investment management firms (who typically manage large accounts on behalf of customers such as pension funds and endowments) use the foreign exchange market to facilitate transactions in foreign securities. For example, an investment manager bearing an international equity portfolio needs to purchase and sell several pairs of foreign currencies topay for foreign securities purchases. Some investment management firms also have more speculative specialist currency overlay operations, which manage clients' currency exposures with the aim of generating profits as well as limiting risk. Whilst the number of this type of Specialist firms is quite small, many have a large value of Assets under Management (AUM), and hence can generate large trades.
G. Retail foreign exchange traders

Individual Retail speculative traders constitute a growing segment of this market with the advent of retail forex platforms, both in size and importance. Currently, they participate indirectly through brokers or banks. Retail brokers, while largely controlled and regulated in the USA by the CFTC and NFA have in the past been subjected to periodic foreign exchanges cams. To deal with the issue, the NFA and CFTC began (as of 2009) imposing stricter requirements, particularly in relation to the amount of Net Capitalization required of its members. As a result many of the smaller and perhaps questionable brokers are now gone or have moved to countries outside the US. A number of the forex brokers operate from the UK under FSA regulations where forex trading using margin is part of the wider over-the-counter derivatives trading industry that includes CFDs and financial spread betting. There are two main types of retail FX brokers offering the opportunity for speculative currency trading: Brokers And Dealers or Market makers . Brokers Serve as an agent of the customer in the broader FX market, by seeking the best price in the market for a retail order and dealing on behalf of the retail customer. They charge a commission or mark-up in addition to the price obtained in the market. Dealers or Market makers By contrast, typically act as principal in the transaction versus the retail customer, and quote a price they are willing to deal at.
H. Non-bank foreign exchange companies
Non-bank foreign exchange companies offer currency exchange and international payments to private individuals and companies. These are also known as foreign exchange brokers butare distinct in that they do not offer speculative trading but rather currency exchange with payments (i.e., there is usually a physical delivery of currency to a bank account).It is estimated that in the UK, 14% of currency transfers/payments are made via Foreign Exchange Companies. These companies' selling point is usually that they will offer better exchange rates or cheaper payments than the customer's bank. These companies differ from Money Transfer/Remittance Companies in that they generally offer higher-value services. I. Money transfer companies/remittance companies and bureau de
change
Money transfer companies/remittance companies perform high-volume low-value transfers generally by economic migrants back to their home country. In 2007, the Aite Group estimated that there were $369 billion of remittances (an increase of 8% on the previous year). The four largest markets (India, China, Mexico and the Philippines) receive $95billion. The largest and best known provider is Western Union with 345,000 agents globally followed by UAE Exchange
Chapter-3. CURRENCY DERIVATIVES
1.
Foreign Exchange
The exchange of one countrys currency for currency of another country is called Foreign Exchange. Currencies are important to most people around the world because currencies need to be exchanged in order to conduct foreign trade and business. An Indian Exporter will receive funds in the foreign currency and would want to exchange the same in to rupees. Similarly a French tourist in the US can't pay in Euros to see the Statue of Liberty because it's not the locally accepted currency. As such, the tourist has to exchange the Euros for the local currency, in this case the Dollar, at the current exchange rate. The need to exchange currencies is the primary reason why the forex market is the largest, most liquid financial market in the world. It dwarfs other markets in size, even the stock market in terms of volumes.
2.
Volumes in Currency Market

Average daily currency trading volumes exceed $4 trillion per day. This is about 10 to 15 times the size of daily trading volume on the worlds stock markets combined.
3.
Currency market a 24 hour market

The market is open 24 hours a day, five and a half days a week, and currencies are traded worldwide in the major financial centers of London, New York, Tokyo, Zurich,Frankfurt, Hong Kong, Singapore, Paris and Sydney - across almost every time zone. This means that when the trading day in the U.S. ends, the Forex market begins in Tokyo and Hong Kong. As such, the Forex market can be extremely active any time of the day, with price quotes changing constantly. Trading time in India is from 9:00 am to 5:00 pm.
Overview Of Currency Market & Strategies Using in Currency Futures 4.
Major currencies in the world

The US dollar is by far the most widely traded currency despite its decline and shakiness in the recent past. It is also widely used as a vehicle currency in foreign exchange transactions. For example, a trader wants to shift funds from the Indian Rupees to the Egyptian Pound will first sell INR for USD and then sell USD for EGP. Even though there are two transactions instead of one, this is the most preferred method of Exchange as the USD/EGP market is more active and liquid than the INR/EGP. Other major currencies include:
The Euro:
The euro is the official currency of 16 of the 27 member states of the European Union. The second most traded currency in the world- the Euro has a strong international presence like the US dollar and has emerged as one of the most premier currencies after the US Dollar.
The Japanese Yen:

The Japanese Yen is the third most traded currency in the world. The Yen is very liquid around the world even though it has a much smaller international presence than the US Dollar and the Euro
The British Pound:

Until the World War II, the Pound was the currency of reference. The currency is heavily traded against the Euro and the US Dollar, but it has a spotty presence against other currencies.
The Swiss Franc:

The Swiss Franc is the only currency of a major European country that belongs neither to the European Monitory Union or the G-7 countries. From a foreign exchange point of view the Swiss Franc closely resembles the patterns of the Euro but lacks its liquidity.
5.
Currency Pairs
In the currency market, a currency trade consists of a simultaneous purchase and sale. In the stock market, for instance, if you buy 100 shares of Tata Motors, you own 100 shares and hope to see the price go up. When you want to exit that position, you simply sell what you bought earlier. But in currencies, the purchase of one currency involves the simultaneous sale of another currency. To put it another way, if youre looking for the dollar to go higher, the question is Higher against what? The answer is another currency. In relative terms, if the dollar goes up against another currency, that other currency also has gone down against the dollar. To make matters easier, Forex markets refer to trading currencies in pairs, with names that combine the two different currencies being traded, or exchanged, against each other. Lets look at some common pairs
Currency Pair
EUR/USD USD/JPY GBP/USD USD/INR
Countries Long
Euro zone/U.S. U.S./Japan U.S./India
Name
Euro-dollar Dollar-yen Dollar-rupee
United Kingdom/U.S. Sterling-dollar
6.
Base currency & Term currency

In foreign exchange markets, the Base currency is the first currency in a currency pair. The second currency is called as the Term currency. Exchange rates are quoted in per unit of the Base currency. Lets take an example: 1 USD= INR 50
Overview Of Currency Market & Strategies Using in Currency Futures Here the Rupee is being quoted against the Dollar. The Dollar is the Base currency and the Rupee is Term currency. The USD is the currency being priced and the Rupee is the currency which is used to express the price. The Base currency is always quoted first.
7.
Appreciation and Depreciation of currency exchange happen
A change in the rate of exchange of one currency to another is expressed as appreciation or depreciation of one currency in terms of the other currency. It is also referred to as strengthening or weakening of one currency vis-avis the other. Whenever the Base currency is bought more than the Term currency, the base currency is strengthened / appreciated and the Term currency has weakened / depreciated. To put it in other words, if the numeric value of the exchange rate goes up, the base currency is strengthened / appreciated and the term currency has weakened / depreciated. Lets look at an example: 1 USD =INR 40 Something costing 100$ will cost Rs.4000 If 1 USD= INR 45 Then something costing 100$ will now cost Rs.4500 A Bigger value of the exchange rate means that our purchasing power is lower; it is a depreciation of the Rupee and appreciation of the dollar. Lets look at another example 1 USD= INR 45 Something costing 100$ will cost Rs.4500 If 1 USD=INR 40 Then something costing 100$ will now cost Rs.4000
Overview Of Currency Market & Strategies Using in Currency Futures A Lower value of the exchange rate means that our purchasing power is higher; it is an appreciation of the Rupee or you can say the Rupee has strengthened and Dollar has depreciated.
Bids and Offers are always for the Base currency:

Traders always think in terms of how much it costs to buy or sell the base currency. When youre in front of your trading screen youll see two prices for each currency pair. The price on the left-hand side is called the bid and the price on the right-hand side is called the offer. The bid is the price at which you can sell the base currency. The offer is the price at which you can buy the base currency. Lets take an example The quote for the Dollar Rupee might be as follows: USD/INR 49.2225/50 Here the bid price is 49.2225 per Dollar and the offer price is 49.2250 per Dollar. The price quotation of each bid and offer you see will have two components: the big figure and the dealing price. The big figure refers to the first four digits of the overall currency rate and is usually shown in a smaller font size. The dealing price refers to the last two digits of the overall currency price and is displayed in a larger font size. In the above example- the big figure is 49.22 and the dealing price is 25/50. Spread is the difference between the bid and the ask rate Tick Size The tick size refers to the smallest possible price change in currency quote. For e.g. if the bid for USD/INR currency contract is Rs 47.0025, then the next tick would be Rs 47.0050 or Rs 47.0000. Here tick size (one tick) for the currency quote is Rs. 0.0025.
Calculating profit and loss using pips:

The last decimal place is called the pip. For most currencies, bids and offers are presented to the fourth decimal place that is 1/10000th of the Term currency unit also called as pip. Profit-and-loss calculations are pretty straightforward theyre all based on position size and the number of pips you make or lose. A pip is the smallest increment of price fluctuation in currency prices. Pips can also be referred to as points; we use the two terms interchangeably. Lets look at some currency quotes to understand pip better USD/CHF = 1.2225 USD/EUR = 1.3225 In the USD/CHF if the price moves from 1.2225 to 1.2250, it has gone up by 25 pips. If it goes from 1.2225 to 1.2200, it has gone down by 25 points.
8.
How is Currency Markets classified?

Currency markets are classified based on the settlement date of the transaction:
Spot: Foreign exchange spot trading is buying one currency with a different currency for immediate delivery. The standard settlement convention for Foreign Exchange Spot trades is T+2 days, i.e., two business days from the date of trade execution. An exception is the USD/CAD (US Canadian Dollars) currency pair which settles T+1. Rates for days other than spot are always calculated with reference to spot rate.
Forward Outright:
A foreign exchange forward is a contract between two
counterparties to exchange one currency for another on any date after spot. Settlement Day TD (Trading day) Value Cash TD + 1 Value Tom TD + 2 Spot TD + 3 or any later day Forward Outright
For example
Overview Of Currency Market & Strategies Using in Currency Futures If April 1 is the TD. Then April 2 is tom and April 3 is spot. Any day after April 4 is forward. Also note that Saturday and Sunday are market holidays so will not be considered. Futures: To participate in the currency markets one needs to go through an Authorized Dealer. Most of the trading is done Over the Counter. To encourage retail participation and to do away with some of the disadvantages of the forward markets the exchanges have introduced Currency Futures Swap: The most common type of forward transaction is the swap. In a swap, two parties exchange currencies for a certain length of time and agree to reverse the transaction at a later date. These are not standardized contracts and are not traded through an exchange. A deposit is often required in order to hold the position open until the transaction is completed. Option; A foreign exchange option (commonly shortened to just FX option) is a derivative where the owner has the right but not the obligation to exchange money denominated in one currency into another currency at a pre-agreed exchange rate on a specified date. The options market is the deepest, largest and most liquid market for options of any kind in the world.
9.
factors that determine Foreign exchange rates
Numerous factors determine exchange rates, and all of them are related to the trading relationship between two countries. Exchange rates are relative, and are expressed as a comparison of the currencies of two countries. The following are some of the principal determinants of the exchange rate between two countries. These factors are in no particular order; like many aspects of economics, the relative importance of these factors is subject to much debate.
1. Inflation
A country with a consistently lower inflation rate exhibits a rising currency value, as its purchasing power increases relative to other currencies. Those countries with higher inflation typically see depreciation in their currency in relation to other currencies. Inflation in the country would increase the domestic prices of the commodities. Increase in prices would probably affect exports because the price may not be competitive. With the decrease in exports the demand for the currency would also decline; this in turn would result in the decline of external value of the currency. Eg: In India, Inflation rate is high and a big worry as compared to other countries. This is affecting growth rate and rupee value is depreciating.
2.
Interest Rate
The interest rate has a great influence on the short term movement of capital. When the interest rate at a centre rises, it attracts short term funds from other centers. This would increase the demand for the currency at the centre and hence its value. Therefore, higher interest rates attract foreign capital and cause the exchange rate to rise. On the other hand when the interest rates fall the exchange rate weakens. E.g.: In the month of March 2011, European countries had increased the interest rate to 1.25%.Hence EURINR (Euro Vs Indian Rupee) appreciated from 63.00 to 66.50 level. Bhagwan Mahavir Collage of Business Administration
Overview Of Currency Market & Strategies Using in Currency Futures Also, as soon as ECB (European central bank) announced no more interest rate hikes for the month of June 2011, value of EURINR depreciated from 66.50 to 63.50
3.
Political Factors
Political stability induced confidence in the investors and encourages capital inflow into the country. This has the effect of strengthening the currency of the country. On the other hand, where the political situation in the country is unstable, it makes the investors withdraw their investments. The outflow of capital from the country would weaken the currency GDP, Fiscal Deficit & IIP. Higher GDP and IIP data of the country indicates growth in the country. Economy is strengthening are positively correlated with a strong currency and would result in the currency strengthening. E.g.: Increase in GDP and IIP numbers in India resulted in appreciation of INR currency against all other four currencies But High fiscal deficit in the country means less capacity to build up infrastructure and this stabilize the growth rate. Due to this value of the currency depreciate. E.g.: Debt problem in Greek and Portugal in European countries has not yet resolved due to which country has been downgraded to negative ratings. EURINR is being depreciated due to this risk factor.
4.
Employment level
Lower unemployment level in the country indicates good economy and higher growth rate in the country. Economy is strengthening are positively correlated with a strong currency and would result in the currency strengthening. Similarly, higher unemployment level in the country indicates stable/poor economy and lower growth rate in the country. Hence, would result in the currency weakening.
Overview Of Currency Market & Strategies Using in Currency Futures E.g.: Every week US unemployment rate appreciate/depreciate the value of US dollar and provides indication for the growth in the country.
10.
The Trading strategies used in Currency Trading

Hedging: Hedging means taking a position in the future market that is opposite to a position in the physical market with a view to reduce or limit the risk associated with unpredictable changes in the exchange rate. Long hedger: Underlying position: short in the foreign currency Hedging position: long in currency futures Short hedger: Underlying position: long in the foreign currency Hedging position: short in currency futures Speculation: Futures contracts can also be used by speculators who anticipate that the spot price in the future will be different from the prevailing futures price. For speculators, who anticipate a strengthening of the base currency will hold a long position in the currency contracts, in order to profit when the exchange rates move up as per the expectation. A speculator who anticipates a weakening of the base currency in terms of the terms currency, will hold a short position in the futures contract so that he can make a profit when the exchange rate moves down. Long position in a currency futures contract without any exposure in the cash market is called a speculative position. Long position in futures for speculative purpose means buying futures contract in anticipation of strengthening of the exchange rate (which actually means buy the base currency (USD) and sell the term currency (INR) and you want the base currency to rise in value and then you would sell it back at a higher price). If the exchange rate strengthens before the expiry of the contract then the trader makes a Bhagwan Mahavir Collage of Business Administration
Overview Of Currency Market & Strategies Using in Currency Futures profit on squaring off the position, and if the exchange rate weakens then the trader makes a loss on squaring off the position. Hypothetical Example Long positions in futures On May 1, 2008, an active trader in the Currency Futures market expects INR will depreciate against USD, caused by Indias sharply rising import bill and poor FII equity flows. On the basis of his view about the USD/INR movement, he buys 1 USD/INR August contract at the prevailing rate of Rs. 40.5800. He decides to hold the contract till expiry and during the holding period USD/INR futures actually moves as per his anticipation and the RBI Reference rate increases to USD/INR 42.46 on May 30, 2008. He squares off his position and books a profit of Rs. 1880 (42.4600x1000 - 40.5800x1000) on 1 contract of USD/INR Futures contract. Observation: The trader has effectively analyzed the market conditions and has taken a right call by going long on futures and thus has made a gain of Rs. 1,880. Short position in a currency futures contract without any exposure in the cash market is called a speculative transaction. Short position in futures for speculative purposes means selling a futures contract in anticipation of decline in the exchange rate (which actually means sell the Base currency (USD) and buy the Term currency (INR) and you want the base currency to fall in value and then you would buy it back at a lower price). If the exchange rate weakens before the expiry of the contract, then the trader makes a profit on squaring off the position, and if the exchange rate strengthens then the trader makes loss. Example Short positions in futures On August 1, 2008, an active trader in the currency futures market expects INR will appreciate against USD, caused by softening of crude oil prices in the international market and hence improving Indias trade balance. On the basis of his view about the USD/INR movement, he sells 1 USD/INR August contract at the prevailing rate of Rs. 42.3600. On August 6, 2008, USD/INR August futures contract actually moves as per his anticipation and declines to 41.9975. He decides to square off his position and earns a profit of Rs.
Overview Of Currency Market & Strategies Using in Currency Futures 362.50 (42.3600x1000 41.9975x1000) on squaring off the short position of 1 USD/INR August futures contract. Observation: The trader has effectively analyzed the market conditions and has taken a right call by going short on futures and thus has made a gain of Rs. 362.50 per contract with small investment (a margin of 3%, which comes to Rs. 1270.80) in a span of 6 days. ]Types
11.
of traders in the Derivatives Markets
One of the reasons for the success of financial markets is the presence of different types of traders who add a great deal of liquidity to the market. Suppliers of liquidity provide an opportunity for others to trade, at a price. The traders in the derivatives markets are classified into three broad types, viz. Hedgers, speculators and arbitrageurs, depending on the purpose for which the parties enter into the contracts.
Hedgers
Hedgers trade with an objective to minimize the risk in trading or holding the underlying securities. Hedgers willingly bear some costs in order to achieve protection against unfavorable price changes.
Speculators
Speculators use derivatives to bet on the future direction of the markets. They take calculated risks but the objective is to gain when the prices move as per their expectation. Based on the duration for which speculators hold a position they are further be classified as scalpers (very short time, may be defined in minutes), day traders (one trading day) and position traders (for a long period may be a week, a month or a year).
Arbitrageurs
Arbitrageurs try to make risk-less profit by simultaneously entering into transactions in two or more markets or two or more contracts. They profit from market inefficiencies by making simultaneous trades that offset each other thereby making their positions risk-free. For example, they try to benefit from difference in currency rates in two different markets. They also try to profit from taking a position in the cash market and the futures market.
Chapter-4. EXCHANGE TRADED CURRENCY FUTURES
Overview Of Currency Market & Strategies Using in Currency Futures 1)
Currency Future contract:

Currency Futures contracts are agreement to buy or sell an asset for a certain price at a future time. Unlike forward contracts, which are traded in the over -the-counter market with no standard contract size or standard delivery arrangements, currency futures contracts are exchange traded and are more standardized. They are standardized in terms of contract sizes, trading parameters, settlement procedures and are traded on a regulated exchange. The contract size is fixed and is referred to as lot size. Since currency futures contracts are traded through exchanges, the settlement of the contract is guaranteed by the exchange or a clearing corporation and hence there is no counter party risk. Exchanges guarantee the execution by holding an amount as security from both the parties. This amount is called as Margin money. Futures contracts provide the flexibility of closing out the contract prior to the maturity by squaring off the transaction in the market.
Overview Of Currency Market & Strategies Using in Currency Futures 2)
Difference between Currency Forwards and Exchange Traded Futures?
Forward Contracts Future Contracts Forward contracts are private and custom Future Contracts are exchange-traded and, made agreements between banks and its therefore, are standardized contracts. Its clients (MNCs, exporters, importers, etc.) being traded on NSE,MCX and USE are not as rigid in their stated terms and platform conditions. No marked to market is debited on daily Futures contracts are marked-to-market basis daily, which means that daily changes are settled day by day until the end of the Contract. High commission is charged by bank for Lesser brokerage is charged on hedging or this transaction No market accessibility speculation by brokers Global accessibility to the market on terminal provided by the exchanges Most of forward contracts are settled with All futures contracts are settled using cash, delivery or receipt of the asset NOT the delivery of the commodity/asset.
Usually no initial payment is required. This Initial margin payment is needed. This contract is customized to the needs of the contract is standardized to the needs of the customers. Customers. Once the contract has been made, it is very Client can square off his position anytime difficult to undo it till the expiry date is before the expiry of contract over.
Overview Of Currency Market & Strategies Using in Currency Futures Examples of Forward & Future Contracts USDINR Spot rate: 46.00 When USDINR spot exchange rate as on 20th Feb 2011 was Rs 46.00 then the Forward contract rates were as follows: Feb 2011: Bid: 46.2032 Offer: 46.2181 Mar 2011: Bid: 46.4525 Offer: 46.4725 Apr 2011: Bid: 46.73 Offer: 46.75 When USDINR spot exchange rate as on 20th Feb 2011 was Rs 46.00 then the Futures contract rates on NSE (National Stock Exchange) were as follows: Feb 2011: Bid: 46.21 Offer: 46.2125 Mar 2011: Bid: 46.45 Offer: 46.4525 Apr 2011: Bid: 46.72 - Offer: 46.7225 If client wants to buy one lot then gain\Loss as per below mentioned contracts will be Forward Price 46.2181 46.4725 46.75 Future Price Brokerage Future Min @ 3% price 46.22 46.46 46.73 charged 0.01 0.01 0.01 Difference(Forward Future price) -0.00440 0.01000 0.01750 Difference per 1000 lots in Rs. -4.4 10 17.5 brokerage price -
46.2125 0.004621 46.4525 0.004645 46.7225 0.004672
If client wants to sell one lot then gain\Loss as per below mentioned contracts will be: Forward Price 46.2181 46.4725 46.75 Future Price Brokerage Future Min @ 3% price 46.22 46.46 46.73 charged 0.01 0.01 0.01 Difference(Forward Future price) -0.00440 0.01000 0.01750 Difference per 1000 lots in Rs. -4.4 10 17.5 brokerage price -
46.2125 0.004621 46.4525 0.004645 46.7225 0.004672
Contract Specifications of currency futures?

NSE Currency Futures:
Overview Of Currency Market & Strategies Using in Currency Futures USD-INR USD-Indian Rupee 9 a.m. to 5 p.m. USD 1,000 The contract would quoted In rupee terms. However, the outstanding positions would Be in terms. Settlement mechanism Settlement price EUR-INR Euro-Indian Rupee GBP-INR JPY-INR Pound Sterling- Japanese YenIndian Rupee Indian Rupee
Underlying Trading hours Size of the contract Quotation
Euro 1,000 The contract be would quoted In rupee terms. However, the outstanding positions would in terms.
GBP 1,000 The contract be would quoted In rupee terms. However, the outstanding positions would sterling terms.
Japanese
Yen
1,00,000 The contract be would be quoted in rupee terms. However, the outstanding positions would Japanese Yen terms. be in
USD Be
Euro be in Pound
Cash settled in Indian Rupee The settlement price would be the Reserve Bank Reference Rate USDINR on the date of Expiry. The settlement price would be the Reserve Bank Reference EURINR on the date of Expiry. for Rate GBPINR Exchange GBPINR rate Exchange rate
published by the published by the Reserve Bank in Reserve Bank in release press rate reference release rate captioned reference RBI captioned RBI for press
for US dollar for US dollar
and Euro. and Euro Last trading Two working days prior to the last business day of the expiry month at day Final settlement day Bhagwan Mahavir Collage of Business Administration 12:15pm (Reference NSE circular No.025/2011) Last working day of a month (Last working day will be same as that for Interbank settlements in Mumbai)
Overview Of Currency Market & Strategies Using in Currency Futures Initial margin The margin computed would subject minimum first day to initial The so margin computed be would a subject of minimum of first day to initial The so margin computed be would a subject of minimum of first day to initial The so margin computed be would a subject of minimum of first 2.30% thereafter. loss Extreme loss day to be a of of and initial so
1.75% on the 2.80% on the 3.20% on the 4.50% on the trading and 1% trading and 2% trading and 2% trading thereafter. Extreme Loss margin Extreme thereafter. loss Extreme thereafter. loss Extreme
margin of 1% margin of 0.3% margin of 0.5% margin of 0.7% on the mark to on the mark to on the mark to on the mark to market value of market value of market value of market value of the gross open the gross open the gross open the gross open positions positions positions positions The calendar The calendar The calendar The calendar spread margin spread margin spread margin spread of for of margin shall be at a shall be at a shall be at a shall be at a value of Rs. 400 value of Rs. 700 value for a spread of 1 for a spread of 1 1500 month. Rs 500 month. Rs 1000 spread Rs. value of Rs. 600 a for a spread of 1 1 month. of for of 2 Rs a 3
Calendar spread margin
for a spread of 2 for a spread of 2 month. Rs 1800 Rs 1000 for a months. Rs 800 months Rs 1500 for a spread of 2 spread for a spread of 3 for a spread of 3 months Rs 2000 months months Rs 1000 months or more. for a spread of 3 1500 for a spread or 4 months or more. Tenor of the contract months or more. spread
months or more.
The maximum maturity of the contract would be 12 months.
Overview Of Currency Market & Strategies Using in Currency Futures Available contracts All months maturities from 1 to 12 months would be made available
3)
Advantages of Futures:
- Transparency and efficient price discovery. The market brings together divergent categories of buyers and sellers. - Elimination of Counterparty credit risk. - Access to all types of market participants. (Currently, in the Foreign Exchange OTC markets one side of the transaction has to compulsorily be an Authorized Dealer i.e. Bank). - Standardized products. - Transparent trading platform.
4)
Limitations of Futures:
- The benefit of standardization which often leads to improving liquidity in futures, works against this product when a client needs to hedge a specific amount to a date for which there is no standard contract. - While margining and daily settlement is a prudent risk management policy, some clients may prefer not to incur this cost in favor of OTC forwards, where collateral is usually not demanded
5) The Order Management conditions in currency trading

1. Price Conditions:Limit Price order is an order where you specify a particular price at which the order should get executed. For e.g. lets say the current market price of a USDINR is 45.0075 and you place an order to buy at Rs. 45.0025. This order is called a limit price. Market price orders are orders for which the price is specified as 'MKT when the order is entered. For such orders, the system determines the best available price. Stop-Loss order facility allows the user to release an order into the system only after the market price of the security reaches or crosses a certain pre-decided threshold price which is called the trigger price. Trigger Price is the Price at which an order gets triggered from the stop loss book. Limit Price is the Price of the orders after it gets triggered from stop loss book.
2. Time conditions:A Day order, as the name suggests is an order that is valid for the day on which it is entered. If the order is not executed during the day, the system cancels the order automatically at the end of the day. By default, the system assumes that all orders entered are Day orders. For example lets say that you have placed an order to buy 1 lot of USDINR at 45.0000. During the trading session your order does not get executed as the price of the currency was above 45.0075 the whole day. In such a scenario your order gets cancelled once market closes and if you want the same order to be placed the next day then you need to place a fresh order.
Overview Of Currency Market & Strategies Using in Currency Futures Immediate or Cancel (IOC) order allows the user to buy or sell a security as soon as the order is released into the system. If the order does not execute immediately then the order is cancelled from the system. Partial match is possible for the order, and the unmatched portion of the order is cancelled immediately.
3. Other conditions:By selecting PRO option broker can place order on his own behalf and by selecting CLI options broker can place order on behalf of the client. In other words, PRO means Proprietary order and CLI means client order.
6) Contract Specifications of currency futures contracts of USD-INR

The contract specification of a USD-INR future contract that is floated by NSE is given in Table below. In the contract, the USD is the base currency and the INR is the quote currency. Contracts are available for a maximum period of 12 months. Each month new contract is introduced. The market disseminates open price, high and low prices, and last trading prices on a real-time basis. prior to the final settlement. Since the final settlement is done on T+2 days, the last day for trading on futures contract is two working days
Overview Of Currency Market & Strategies Using in Currency Futures USD-INR contract specifications: Underlying USD-Indian Rupee Trading hours 9 a.m. to 5 p.m. Size of the USD 1,000 contract Quotation Settlement mechanism Settlement price Last trading day Final The contract would be quoted in rupee terms. However, the outstanding positions would be in USD terms. Cash settled in Indian Rupee The settlement price would be the Reserve Bank Reference Rate for USDINR on the date of expiry. Two working days prior to the last business day of the expiry month
at 12 noon settlement Last working day of a month (Last working day will be same as that for Interbank settlements in Mumbai) The initial margin so computed would be subject to a minimum of 1.75% on the first day of trading and 1% thereafter. Loss Extreme loss margin of 1% on the mark to market value of the gross open positions spread The calendar spread margin shall be at a value of Rs. 400 for a spread of 1 month. Rs 500 for a spread of 2 months. Rs 800 for a spread of 3 months Rs 1000 for a spread or 4 months or more. the The maximum maturity of the contract would be 12 months. All months maturities from 1 to 12 months would be made available
day Initial margin Extreme margin Calendar margin
Tenor contract Available contracts
of
Permitted lot size :Permitted lot size for USDINR future contracts is 1000 US dollars. Members place orders in terms of number of lots. Therefore, if a member wants to take a position for 10000 USD, then the number of contracts required is 10000/1000 = 10 contracts. Bhagwan Mahavir Collage of Business Administration
Tick Size:Price steps in respect of all currency futures contracts admitted to dealing on the Exchange have been specified to be Rs. 0.0025. For example, if the current price is INR 48.5000, a single tick movement will result the price to be either INR 48.5025 or 48.4975 for one USD.
Quantity Freeze:Quantity Freeze for Currency Futures Contracts is 10,001 lots or greater i.e. Orders having quantity up to 10001 lots are allowed. In respect of orders, which have come under quantity freeze, the members are required to confirm to the Exchange that there is no inadvertent error in the order entry and that the order is genuine. On such confirmation, the Exchange may approve such order. However, in exceptional cases, the Exchange has discretion to disallow the orders that have come under quantity freeze for execution for any reason whatsoever including non-availability of turnover / exposure limits.
Base Price:Base price of the USDINR Futures Contracts on the first day is the theoretical futures price. The base price of the contracts on subsequent trading days is the daily settlement price of the USDINR futures contracts.
Price Dissemination :The exchanges generally disseminate the open price, high price, low price, lasttraded prices and the total number of contracts traded in the day through its trading system on a real-time basis. It also disseminates information about the best ask and Bhagwan Mahavir Collage of Business Administration
Overview Of Currency Market & Strategies Using in Currency Futures best bid price, the spread and the net open interest on each contract on a real-time basis. (Open Interest means the total number of contracts of an underlying security that have no t yet been offset and closed by an opposite derivatives transaction nor fulfilled by delivery of the cash or underlying security or option exercise. For calculation of open interest, only one side of the derivatives contract is counted). In India, futures contracts are floated that mature every month but the maximum period is 12 months. The spread for the nearest- maturity contracts is generally just a single tick and they are more liquid than other contracts.
Price ranges of contracts :There are no daily price bands (circuit limits) applicable for Currency Futures contracts. This means that the strike rate is allowed to change to any level within a day. This is unlike in case of stocks, where there is circuit limit on price, ranging from 5% to 20% depending on the stock category. However, in order to prevent erroneous order entry by members, operating ranges have been kept at +/ -3% of the base price for contracts with tenure up to 6 months and 5% for contracts with tenure greater than 6 months. In respect of orders, which have come under price freeze, the members are required to confirm to the exchange that there is no inadvertent error in the order entry and that the order is genuine. On such confirmation, the exchange may take appropriate action. This is done to take care of cases where an order is entered into the system at a pr ice, which is not meant by the party, but wrongly given due to data entry errors. For example, instead of placing an order to sell USD at the rate of 48.5000, the client may enter 4.8500 in the system.
Chapter-5 RESEARCH METDOLOGY
DEFINE RESEARCH OBJECTIVE

The primary object of the present project is to know about the currency market.. To know about the currency market in detail. To know about hedging strategies.
BENEFITS OF THE STUDY

The project provided researcher the following benefits: This project will helpful for those people who want to know the currency market. This report will helpful for those people who do not aware about the currency hedging strategies. This report will helpful for those people who want to invest some money in currency market. This project will helpful for those people who want to know the currency future market.
DATA COLLECTION
The data collection is very important before conducting a survey. The data can be collected by two ways:
Secondary Data Secondary data is the data already collected by someone for his/her purpose of study. In this project report, I used secondary source of data in the form of overall currency futures strategies through various internet sites, etc. Communication with guide in order to get the feedback about the methodology of convincing the potential client and asking for the required investments. Bhagwan Mahavir Collage of Business Administration
Limitation of the Study

These limitations that the researcher faced during the study are as follows: This report is based on secondary data.
In practical, only optimal hedging is possible.
Chapter-6 Data analysis & Interpretation
STRATEGIES USING CURRENCY FUTURES

1. SPECULATION IN FUTURES MARKETS Speculators play a vital role in the futures markets. Futures are designed primarily to assist hedgers in managing their exposure to price risk; however, this would not be possible without the participation of speculators. Speculators, or traders, assume the price risk that hedgers attempt to lay off in the markets. In other words, hedgers often depend on speculators to take the other side of their trades ( i.e. act as counter party) and to add depth and liquidity to the markets that are vital for the functioning of a futures market. The speculators therefore have a big hand in making the market. Speculation is not similar to manipulation. A manipulator tries to push prices in the reverse direction of the market equilibrium while the speculator forecasts the movement in prices and this effort eventually brings the prices closer to the market equilibrium. If the speculators do not adhere to the relevant fundamental factors of the spot market, they would not survive since their correlation with the underlying spot market would be nonexistent. 2. LONG POSITION IN FUTURES
Long position in a currency futures contract without any exposure in the cash market is called a speculative position. Long position in futures for speculative purpose means buying futures contract in anticipation of strengthening of the exchange rate (which actually means buy the base currency (USD) and sell the terms currency (INR) and you want the base currency to rise in value and then you would sell it back at a higher price). If the exchange rate strengthens before the expiry of the contract then the trader makes a profit on squaring off the position, and if the exchange rate weakens then the trader makes a loss.
Payoff Long Position in Futures
The graph above depicts the pay-off of a long position in a future contract, which does demonstrate that the pay-off of a trader is a linear derivative, that is, he makes unlimited profit if the market moves as per his directional view, and if the market goes against, he has equal risk of making unlimited losses if he doesnt choose to exit out his position.
Hypothetical Example Long positions in futures

On May 1, 2008, an active trader in the currency futures market expects INR will depreciate against USD caused by Indias sharply rising import bill and poor FII equity flows. On the basis of his view about the USD/INR movement, he buys 1 USD/INR August contract at the prevailing rate of Rs. 40.5800. He decides to hold the contract till expiry and during the holding period USD/INR futures actually moves as per his anticipation and the RBI Reference rate increases to USD/INR
Overview Of Currency Market & Strategies Using in Currency Futures 42.46 on May 30, 2008. He squares off his position and books a profit of Rs. 1880 (42.4600x1000 - 40.5800x1000) on 1 contract of USD/INR futures contract.
3. SHORT POSITION IN FUTURES

Short position in a currency futures contract without any exposure in the cash market is called a speculative transaction. Short position in futures for speculative purposes means selling a futures contract in anticipation of decline in the exchange rate (which actually means sell the base currency (USD) and buy the terms currency (INR) and you want the base currency to fall in value and then you would buy it back at a lower price). If the exchange rate weakens before the expiry of the contract, then the trader makes a profit on squaring off the position, and if the exchange rate strengthens then the trader makes loss. The graph above depicts the pay-off of a short position in a future contract which does exhibit that the pay-off of a short trader is a linear derivative, that is, he makes unlimited profit if the market moves as per his directional view and if the market goes against his view he has equal risk of making unlimited loss if he doesnt choose to exit out his position.
Example Short positions in futures
Overview Of Currency Market & Strategies Using in Currency Futures On August 1, 2008, an active trader in the currency futures market expects INR will appreciate against USD, caused by softening of crude oil prices in the international market and hence improving Indias trade balance. On the basis of his view about the USD/INR movement, he sells 1 USD/INR August contract at the prevailing rate of Rs. 42.3600. On August 6, 2008, USD/INR August futures contract actually moves as per his anticipation and declines to 41.9975. He decides to square off his position and earns a profit of Rs. 362.50 (42.3600x1000 41.9975x1000) on squaring off the short position of 1 USD/INR August futures contract.
4. HEDGING USING CURRENCY FUTURES Hedging: Hedging means taking a position in the future market that is opposite to a
position in the physical market with a view to reduce or limit risk associated with unpredictable changes in exchange rate. A hedger has an Overall Portfolio (OP) composed of (at least) 2 positions: 1. Underlying position 2. Hedging position with negative correlation with underlying position Value of OP = Underlying position + Hedging position; and in case of a Perfect hedge, the Value of the OP is insensitive to exchange rate (FX) changes.
Types of FX Hedgers using Futures Long hedge:

Underlying position: short in the foreign currency Hedging position: long in currency futures
Short hedge:
Underlying position: long in the foreign currency Hedging position: short in currency futures
The proper size of the Hedging position

Basic Approach: Equal hedge Modern Approach: Optimal hedge
Equal hedge: In an Equal Hedge, the total value of the futures contracts involved is the
same as the value of the spot market position. As an example, a US importer who has an exposure of 1 million will go long on 16 contracts assuming a face value of 62,500 per contract. Therefore in an equal hedge: Size of Underlying position = Size of Hedging position.
Optimal Hedge: An optimal hedge is one where the changes in the spot prices are
negatively correlated with the changes in the futures prices and perfectly offset each other. This can generally be described as an equal hedge, except when the spot-future basis relationship changes. An Optimal Hedge is a hedging strategy which yields the highest level of utility to the hedger.
Example 1: Long Futures Hedge Exposed to the Risk of Strengthening USD Unhedged Exposure: Lets say on January 1, 2008, an Indian importer enters into a
contract to import 1,000 barrels of oil with payment to be made in US Dollar (USD) on July 1, 2008. The price of each barrel of oil has been fixed at USD 110/barrel at the prevailing exchange rate of 1 USD = INR 39.41; the cost of one barrel of oil in INR works out to be Rs. 4335.10 (110 x 39.41). The importer has a risk that the USD may strengthen over the next six months causing the oil to cost more in INR; however, he decides not to hedge his position. On July 1, 2008, the INR actually depreciates and now the exchange rate stands at 1 USD = INR 43.23. In dollar terms he has fixed his price, that is USD 110/barrel, however, to make
Overview Of Currency Market & Strategies Using in Currency Futures payment in USD he has to convert the INR into USD on the given date and now the exchange rate stands at 1USD = INR43.23. Therefore, to make payment for one dollar, he has to shell out Rs. 43.23. Hence the same barrel of oil which was costing Rs. 4335.10 on January 1, 2008 will now cost him Rs. 4755.30, which means 1 barrel of oil ended up costing Rs. 4755.30 - Rs. 4335.10 = Rs. 420.20 more and hence the 1000 barrels of oil has become dearer by INR 4,20,200.
When INR weakens, he makes a loss, and when INR strengthens, he makes a profit. As the importer cannot be sure of future exchange rate developments, he has an entirely speculative position in the cash market, which can affect the value of his operating cash flows, income statement, and competitive position, hence market share and stock price.
Hedged: Lets presume the same Indian Importer pre-empted that there is good
probability that INR will weaken against the USD given the current macro economic fundamentals of increasing Current Account deficit and FII outflows and decides to hedge his exposure on an exchange platform using currency futures.
Since he is concerned that the value of USD will rise he decides go long on currency futures, it means he purchases a USD/INR futures contract. This protects the importer because strengthening of USD would lead to profit in the long futures position, which would effectively ensure that his loss in the physical market would be mitigated. The following figure and Exhibit explain the mechanics of hedging using currency futures.
Example 2: Short Futures Hedge Exposed to the Risk of Weakening USD Unhedged Exposure: Lets say on March 1, 2008, an Indian refiner enters into a
contract to export 1000 barrels of oil with payment to be received in US Dollar (USD) on June 1, 2008. The price of each barrel of oil has been fixed at USD 80/barrel at the prevailing exchange rate of 1 USD = INR 44.05; the price of one barrel of oil in INR works out to be is Rs. 3524 (80 x 44.05). The refiner has a risk that the INR may strengthen over the next three months causing the oil to cost less in INR; however he decides not to hedge his position. On June 1, 2008, the INR actually appreciates against the USD and now the exchange rate stands at 1 USD = INR 40.30. In dollar terms he has fixed his price, that is USD 80/barrel; however, the dollar that he receives has to be converted in INR on the given date and the exchange rate stands at 1USD = INR40.30. Therefore, every dollar that he receives is worth Rs. 40.30 as against Rs. 44.05. Hence the same barrel of oil that initially would have garnered him Rs. 3524 (80 x 44.05) will now realize Rs. 3224, which means 1 barrel of oil
Overview Of Currency Market & Strategies Using in Currency Futures ended up selling Rs. 3524 Rs. 3224 = Rs. 300 less and hence the 1000 barrels of oil has become cheaper by INR 3,00,000.
When INR strengthens, he makes a loss and when INR weakens, he makes a profit. As the refiner cannot be sure of future exchange rate developments, he has an entirely speculative position in the cash market, which can affect the value of his operating cash flows, income statement, and competitive position, hence market share and stock price.
Hedged: Lets presume the same Indian refiner pre-empted that there is good probability
that INR will strengthen against the USD given the current macroeconomic fundamentals of reducing fiscal deficit, stable current account deficit and strong FII inflows and decides to hedge his exposure on an exchange platform using currency futures.
Since he is concerned that the value of USD will fall he decides go short on currency futures, it means he sells a USD/INR future contract. This protects the importer because weakening of USD would lead to profit in the short futures position, which would
Overview Of Currency Market & Strategies Using in Currency Futures effectively ensure that his loss in the physical market would be mitigated. The following figure and exhibit explain the mechanics of hedging using currency futures.
Example 3 (Variation of Example 1): Long Futures Hedge Exposed to the Risk of Contract Expiry and Liquidation on the Same Day
Example 4: Retail Hedging Long Futures Hedge Exposed to the Risk of a stronger USD
On March 2008, a student decides to enroll for CMT-USA October 2008 exam for which he needs to make a payment of USD 1,000 on September, 2008. On March, 2008 USD/INR rate of 40.26, the price of enrolment in INR works out to be Rs. 40,260. The student has the risk that the USD may strengthen over the next six months causing the enrolment to cost more in INR hence decides to hedge his exposure on an exchange platform using currency futures. Since he is concerned that the value of USD will rise, he decides go long on currency futures; it means he purchases a USD/INR futures contract. This protects the student because strengthening of USD would lead to profit in the long futures position, which would effectively ensure that his loss in the physical market would be mitigated. The following figure and Exhibit explain the mechanics of hedging using currency futures.
Example 5: Retail Hedging Remove Forex Risk while Investing Abroad

Lets say when USD/INR at 44.20, an active stock market investor decides to invest USD 200,000 for a period of six months in the S&P 500 Index with a perspective that the market will grow and his investment will fetch him a decent return. In Indian terms, the investment is about Rs. 8,840,000. Lets say that after six months, as per his anticipation, the market wherein he has invested has appreciated by 10% and now his investment of USD 200,000 stands at USD 220,000. Having earned a decent return the investor decides to square off all his positions and bring back his proceeds to India. The current USD/INR exchange rate stands at 40.75 and his investment of USD 220,000 in Indian term stands at Rs. 8,965,000. Thus fetching him a meager return of 1.41% as compared to return of 10% in USD, this is because during the same period USD has depreciated by 7.81% against the INR and therefore the poor return. Consequently, even after gauging the overseas stock market movement correctly he is not able to earn the desired overseas return because he was not able to capture and manage his currency exposure. Lets presume the same Indian investor pre-empted that there is good probability that the USD will weaken given the then market fundamentals and has decided to hedge his exposure on an exchange platform using currency futures. Since he was concerned that the value of USD will fall he decides go short on currency futures, it means he sells a USD/INR futures contract. This protects the investor because weakening of USD would lead to profit in 35 the short futures position, which would effectively ensure that his loss in the investment abroad would be mitigated. The following figure and Exhibit explain the mechanics of hedging using currency futures. Bhagwan Mahavir Collage of Business Administration
Example 6: Retail Hedging Remove Forex Risk while Trading in Commodity Market
Gold prices on Exchanges in India have a very high correlation with the COMEX gold prices. That is, Indian gold prices decrease with the decrease in COMEX prices and increase with the increase in COMEX prices. But it doesnt mean the increase and decrease will be same in Indian exchanges in percentage terms as that in COMEX. This is because in both the markets the quotation is in different currency, for COMEX gold is quoted in USD and in India gold is quoted in INR. Hence any fluctuation in USD/INR exchange rate will have an impact on profit margins of corporates/clients having positions in Indian Gold Futures. By hedging USD/INR through currency futures, one can offset the deviation caused in COMEX and Indian prices. The following example explains the same. Lets say with gold trading on COMEX at USD 900/Troy Ounce (Oz) with USD/INR at 40.00, an active commodity investor, realizing the underlying fundamentals, decides that its a good time to sell gold futures. On the basis of this perspective, he decides to sell 1 Indian Gold Future contract @ Rs. 11,580/10 gm. Lets say after 20 days, as per his expectation, gold prices did decline drastically on COMEX platform and gold was now trading at USD 800/oz, a fall of 11.11%. However, in India gold future was trading @ Rs. 11,317/10 gm, which is a profit of 2.27%. This is because during the same period the INR has depreciated against the USD by 10% and the prevalent exchange rate was 44.00. Had the USD/INR exchange rate remained constant at 40.00, the price after 20 days on the Indian exchange platform would have been Rs. 10,290 and thus profit realization would have been the same 11%. Lets presume the same Indian investor pre-empted that there is good probability that the INR will weaken given the then market fundamentals and has decided to hedge his exposure on an exchange platform using currency futures. Bhagwan Mahavir Collage of Business Administration
Since he was concerned that the value of USD will rise, he decides go long on currency futures, it means he buys a USD/INR futures contract. This protects the investor because strengthening of USD would lead to profit in the long futures position, which would effectively ensure that his loss in the commodity trading would be mitigated.
5. TRADING SPREADS USING CURRENCY FUTURES.

Spread refers to difference in prices of two futures contracts. A good understanding of spread relation in terms of pair spread is essential to earn profit. Considerable knowledge of a particular currency pair is also necessary to enable the trader to use spread trading strategy. Spread movement is based on following factors: Interest Rate Differentials Liquidity in Banking System Monetary Policy Decisions (Repo, Reverse Repo and CRR) Inflation
Intra-Currency Pair Spread: An intra-currency pair spread consists of one long

futures and one short futures contract. Both have the same underlying but different maturities.
Inter-Currency Pair Spread: An intercurrency pair spread is a long-short position

in futures on different underlying currency pairs. Both typically have the same maturity.
Example: A person is an active trader in the currency futures market. In September

2008, he gets an opportunity for spread trading in currency futures. He is of the view that in the current environment of high inflation and high interest rate the premium will move higher and hence USD will appreciate far more than the indication in the current quotes, i.e. spread will widen. On the basis of his views, he decides to buy December currency futures at 47.00 and at the same time sell October futures contract at 46.80; the spread between the two contracts is 0.20. Lets say after 30 days the spread widens as per his expectation and now the October futures contract is trading at 46.90 and December futures contract is trading at 47.25, the spread now stands at 0.35. He decides to square off his position making a gain of Rs. 150 (0.35 0.20 = 0.15 x $1000) per contract.
6. ARBITRAGE
Arbitrage means locking in a profit by simultaneously entering into transactions in two or more markets. If the relation between forward prices and futures prices differs, it gives rise to arbitrage opportunities. Difference in the equilibrium prices determined by the demand and supply at two different markets also gives opportunities to arbitrage.
Example Lets say the spot rate for USD/INR is quoted @ Rs. 44.325 and one month forward is quoted at 3 paisa premium to spot @ 44.3550 while at the same time one month currency futures is trading @ Rs. 44.4625. An active arbitrager realizes that there is an arbitrage opportunity as the one month futures price is more than the one month forward price. He implements the arbitrage trade where he; Sells in futures @ 44.4625 levels (1 month) Buys in forward @ 44.3250 + 3 paisa premium = 44.3550 (1 month) with the same term period
Overview Of Currency Market & Strategies Using in Currency Futures On the date of future expiry he buys in forward and delivers the same on exchange platform In a process, he makes a Net Gain of 44.4625-44.3550 = 0.1075 i.e. Approx 11 Paisa arbitrage Profit per contract = 107.50 (0.1075x1000)
Chapter -7 Findings
FINDINGS LONG POSITIONS IN FUTURES

The trader has effectively analyzed the market conditions and has taken a right call by going long on futures and thus has made a gain of Rs. 1,880.
SHORT POSITION IN FUTURES

The trader has effectively analysed the market conditions and has taken a right call by going short on futures and thus has made a gain of Rs. 362.50 per contract with small investment (a margin of 3%, which comes to Rs. 1270.80) in a span of 6 days.
LONG FUTURES HEDGE EXPOSED TO THE RISK OF STRENGTHENING USD

In the example, Following a 9.7% rise in the spot price for USD, the US dollars are purchased at the new, higher spot price, but profits on the hedge foster an effective exchange rate equal to the original hedge price.
SHORT FUTURES HEDGE EXPOSED TO THE RISK OF WEAKENING USD

Following an 8.51% fall in the spot price for USD, the US dollars are sold at the new, lower spot price; but profits on the hedge foster an effective exchange rate equal to the original hedge price.
LONG FUTURES HEDGE EXPOSED TO THE RISK OF CONTRACT EXPIRY AND LIQUIDATION ON THE SAME DAY
The size of the exposure is USD 110000 and the desired value date is precisely the same as the futures delivery date (June 30). Following a 9.5% rise in the spot price for USD against INR, the US dollars are purchased at the new, higher spot price; but profits on the hedge foster an effective exchange rate equal to the original futures price because on the date of expiry the spot price and the future price tend to converge.
Retail Hedging Long Futures Hedge Exposed to the Risk of a stronger USD
Following a 14.25% rise in the spot price for USD (against INR), the US dollars are bought at the new, higher spot price; but profits on the hedge foster an effective exchange rate equal to the original hedge price.
Retail Hedging Remove Forex Risk while Investing Abroad

Had the exchange rate been stagnant at 44.20 during the six-month investment period the investment in Rupee terms would have grown from INR 884,00,000 to INR 9,724,000 fetching him a return of INR 8,84,000 in absolute terms. However, during the investment period, the USD has depreciated by 7.81% and hence his investment has earned him a return of only INR 125,000. Had he hedged his exposure using currency futures, he could have mitigated a major portion of his risk as explained in the above example; he is not able to mitigate his risk completely even with the basis remaining the same because during the holding period his investment has grown from USD 2,00,000 to USD 2,20,000. The exhibit below gives the tabular representation of the portfolio with and without currency hedging:
Hence a hedging using currency future has provided him better return as compared to the one without hedging. Also, it is not possible for every investor to gauge both the markets correctly, as in this case the investor may be an intelligent and well informed stock investor, but he may not be equally good when it comes to currency market; also it is not necessary that both markets move in the direction of the investors advantage. So its advisable that if an investor is taking a bet in one market, he will be better off if he can mitigate the risk related to other markets.
ARBITRAGE
The discrepancies in the prices between the two markets have given an opportunity to implement a lower risk arbitrage. As more and more market players will realize this opportunity, they may also implement the arbitrage strategy and in the process will enable market to come to a level of equilibrium.
Chapter 8 Suggestions & Recommendations
SUGGESTIONS & RECOMMANDATIONS

In the long futures hedge exposed to the risk of strengthening USD, the investor concerned that the value of USD will rise he should decides go long on currency futures, it means he should purchase a USD/INR futures contract. It protects the importer because strengthening of USD would lead to profit in the long futures position, which ensure that his loss in the physical market would be mitigated.
In the short futures hedge exposed to the risk of weakening USD, investor concerned that the value of USD will fall , so he should decides to go short on currency futures, it means he should sell a USD/INR future contract. It protects the importer because weakening of USD would lead to profit in the short futures position.
When investor wants to do risk management in long future about the risk of contract expiry and liquidation on the same day, he should make the use of hedging strategy. According to the example, he will get profit on the hedge which fosters an effective exchange rate equal to the original futures price.
From the example of retail hedging, investor is concerned that the value of USD will rise; he should go long on currency futures. He should purchase a USD/INR future contract. It will protect the investor from the risk of invest because strengthening of USD would lead to profit in the long futures position which mitigate the loss of invest.
Overview Of Currency Market & Strategies Using in Currency Futures While investing in abroad the investor have risk of increase the value of the currency. So he should purchase a future contract to be safe against loss. It will help the investor to provide him better return as compared to the one without hedging.
In the commodity market, the investor can apply the hedging strategy. While trading in commodity market, hedging remove the forex risk. Lets presume the investor pre-empted that there is good probability that the INR will weaken, he should decide to hedge his exposure on an exchange platform using currency futures.
It is advisable that if an investor is taking a bet in one market, he will be better off if he can mitigate the risk related to other markets.
LIMITATIONS OF THE STUDY

In the currency future market, contract size are fixed (like 1000USD). So, hedger has to buy compulsory 1000USD size lot. Here, equal hedging position is not possible or negligible. Costs increases with transaction size. Exchange traded future come in limited currencies and maturities. Daily marking-to-market can cause a cash flow mismatch.
Chapter -9 CONCLUSION
CONCLUSION
It must be noted that though the examples illustrate how a hedger can successfully avoid negative outcomes by taking an opposite position in FX futures, it is also possible, that on occasion the FX fluctuations may have been beneficial to the hedger had he not hedged his position and taking a hedge may have reduced his windfall gains from these FX fluctuations. FX hedging may not always make the hedger better-off but it helps him to avoid the risk (uncertainty) and lets him focus on his core competencies instead. Many people are attracted toward futures market speculation after hearing stories about the amount of money that can be made by trading futures. While there are success stories, and many people have achieved a more modest level of success in futures trading, the keys to their success are typically hard work, a disciplined approach, and a dedication to master their trade. An investor should always remember the trade that he has initiated has the equal probability of going wrong and must therefore apply meticulous risk management practices to ensure the safety of his hard-earned capital. If you intend to follow this path, this market is the place to be.
GLOSSARY ITEMS
FX GATT EEC INR LTP MTM OTC RBI TD NSE USD USD/INR NSE-CDS SEBI GDP PRO CLI
Foreign Exchange Forex (Foreign Exchange) General Agreement on Tariffs and Trade European Economic Community Indian Rupee Last Trade Price Mark-To-Market Over-the-Counter Reserve Bank of India Trading day National security Exchange US Dollar US Dollar-Indian Rupee Forex Transaction National Stock Exchange Currency derivative segment The Securities & Exchange Board of India Gross Domestic Product Proprietary order Client order.
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Guided By: Mrs. Cheta Vashi

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-:SUBMITTED TO:BHAWAN MAHAVIR COLLAGE OF BUSSINESS ADMINISTRATION Surat, 2011 2012.

Bhagwan Mahavir Collage of Business Administration