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 Define Foreign Exchange Market

 Exchange Rate
 Spot Market
 Quotations at The Foreign Exchange Market
 Direct and Indirect Quotes
 Relationships Between Bid and Ask prices of the
currencies
 Spread/Cost Of Transactions
 Forward Market
 Forward Exchange Rate
 Quotations Of Forward Rates
 Premium and Discount In the Forward Market

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 Derivatives Defined
 Factors Driving growth Of Derivatives
 Derivative Products
 Participants in the Derivative markets
 Exchange Traded Vs OTC derivative markets
 NSE’s Derivative Market
 Participants
 Turnover

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 Foreign exchange means the money of a foreign country; that is
foreign country bank balances,cheques,drafts and banknotes.
 A foreign exchange transaction is an agreement between a buyer and
a seller that a fixed amount of currency will be delivered for some
other currency at a specified rate.
 That is the market where one currency is traded for another.
 Huge Market
 Foreign exchange market:Avg traded value exceeds $1.9 trillion per
day and includes all of the currencies of the world
 Competitive and Efficient
 Many Participants
▪ Large Commercial Banks
▪ Foreign Exchange Brokers
▪ Multinational Corporations
▪ Central Banks

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 The Exchange Market
All over the globe
24 hours a day
Most transactions are channelized through the
world-wide interbank market-the market where
banks trade with each other(multiples of
$1Million US or equivalent in transaction size)
The client or retail market(specific ,small amount)
• Individuals and Firms
• Speculators and arbitragers
• Foreign exchange brokers
• Central Bank and treasuries

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 The Foreign Exchange Market
 an electronically linked network of banks,
foreign exchange brokers and dealers who
bring together buyers and sellers of
currencies
Historically
• Telephone
• Telex
Today
• Electronically Brokering
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 London
 New York
 Tokyo
 Zurich
 Frankfurt
 Hong Kong
 Singapore
 Paris
 Sydney
spanning most time zones

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 Growth in International Trade
 Regulation and control for cross-
border capital flows and exchange
rates have decreased.
 Huge cross-border FDI
 International portfolio investments
 Arbitrage
 Speculation
 Hedging

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 The rate at which one currency is
traded for another currency.

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 The spot market or cash market is a commodities
or securities market in which goods are sold for cash
and delivered immediately.

 Spot Forex
• The spot foreign exchange market has a 2 day
delivery date, originally due to the time it would
take to move cash from one bank to another.
 Denoted by S(.) where S is the relationship between 2
currencies ,e.g. S(Rs/$)=Rs 48.10/$ means
 1 dollar = Rs.48.10
(therefore market for purchase or sale of currencies for
immediate delivery is called the spot market)

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A quotation is the amount of a currency
necessary to buy or sell a unit of another
currency.
 Expressed in currency terms it is called
outright rate e.g. S(Rs./$)=Rs. 48.10 is an
outright rate between Rs. and $
 Quotes=‘buy’ and ‘sell’ OR ‘bid’ and
‘ask’ rates
 Example:-
Buying Rs.35.10/$ Selling
36.35/$

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 Direct Quote: A unit of foreign currency quoted
in terms of domestic currency.
Example:-
At New York exchange market the deutsche
mark(DM) is quoted as:
Spot(bid) =$2.4000/DM
Spot(ask) =$2.4017/DM
 Indirect Quote: A unit of domestic currency
quoted in terms of foreign currency.
Example:
London foreign Exchange Market
Spot(bid)=$3.0201/BP Spot(Ask)=$3.0180/BP

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 There are two sides of all quotes:
 Buy and sell(buy dollars against Rs.
Sell dollars for Rs.)
 Example: PNB Spot(Rs./$)(bid/ask)=
Rs.
48.0010/48.0015 /$

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 Ask and Bid differential is called Spread.
 When quotes are direct:

 Example:
Spread bid price of dollar at spot S(Rs./bid$)=35.7621 and the ask
price is S(Rs./Ask$)=35.8024
Therefore the spread is ?
Rs.0.0403

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 A forward contract between a
bank and a customer calls for
delivery are a fixed future date
of a specified amount of fixed
currency against another at an
exchange rate fixed at the time
of the contract
 The contract is binding-both
parties must fulfill the contract
regardless of what the
exchange rate is at the time of
the exchange specified in the
contract.
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 Therefore the market where
the purchases and sales of
currencies are contracted in
the present for receipts and
delivery in future is called
the Forward Market.
 Forward Exchange Rates
are determined by forward
demand and forward supply
of various currencies.e.g.
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 Delivery of the currencies is to take
place after some-time(30 days,60
days or 90 days)
 Quotations are in the form of bid and
ask.

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 Forward Premium: A foreign currency is said to
be at a forward premium if its future value
exceeds its present value in terms of domestic
currency .
 Example: Spot(Rs/$)=Rs. 35.70/$ and three
month forward is F(Rs/$)=Rs. 36.90 dollar is at
premium and Rs is at discount.
 Forward Discount: A foreign currency is said to
be at a forward discount if its future is lower than
its present value in terms of domestic currency .
 Example: Spot(Rs/$)=Rs. 35.70/$ and three
month forward is F(Rs/$)=Rs. 34.90 dollar is at
discount and Rs is at premium.

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 Derivative indicates that it has no independent
value, i.e. its value is completely taken out from the
value of the underlying asset.
 The underlying asset can be any from the following:
securities, commodities, bullion, currency, live
stock or anything else.
 Therefore, Derivative means a forward contract,
future contract, option contract or any other hybrid
contract of pre determined fixed duration,
 linked for the purpose of contract fulfillment to the
value of a specified real or financial asset or to an
index of securities.

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 Derivatives are included in the definition of
Securities. The term Derivative has been defined
in Securities Contracts Act, as:-
 A Derivative includes: -
 a security is derived from an instrument of debt,
share, loan, which can be secured or unsecured, risk
instrument or contract for any differences or any
other form of security;
 a contract whose value can be derived from the
prices, or index of prices, of underlying assets.

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 Increased volatility in asset prices in
financial markets.
 Increased integration of national
financial markets with the
international financial markets.
 Marked improvement in
communication facilities.

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FORWARDS: A forward contract is a customized contract
between two entities, where settlement takes place on a
specific date in the future at today’s pre-agreed price.
 
FUTURES: A futures contract is an agreement between two
parties to buy or sell an asset at a certain time in the future at
a certain price. Futures contracts are special types of forward
contracts in the sense that the former are standardized
exchange-traded contracts
 
OPTIONS: Options are of two types - calls and puts. Calls give
the buyer the right but not the obligation to buy a given
quantity of the underlying asset, at a given price on or before
a given future date. Puts give the buyer the right, but not the
obligation to sell a given quantity of the underlying asset at a
given price on or before a given date.
 
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WARRANTS: Options generally have lives of upto
one year, the majority of options traded on options
exchanges having a maximum maturity of nine
months. Longer-dated options are called warrants
and are generally traded over-the-counter.
 
LEAPS: The acronym LEAPS means Long-Term
Equity Anticipation Securities. These are options
having a maturity of upto three years.
 
SWAPS: Swaps are private agreements between two
parties to exchange cash flows in the future
according to a prearranged formula. They can be
regarded as portfolios of forward contracts.

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INTEREST RATE SWAPS: These entail swapping
only the interest related cash flows between
the parties in the same currency.
 
CURRENCY SWAPS: These entail swapping both
principal and interest between the parties, with
the cash flows in one direction being in a
different currency than those in the opposite
direction.

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 HEDGERS-Hedgers
are individuals and
firms that make
purchases and sales in
the futures market
solely for the purpose
of establishing a
known price level--
weeks or months in
advance.
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 In this way they
attempt to protect
themselves
against the risk of
an unfavorable
price change in the
short term.
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SPECULATORS

 A person who trades derivatives, commodities,

bonds, equities or currencies with a higher-than-
average risk in return for a higher-than-average
profit potential.

 Speculators take large risks, especially with

respect to anticipating future price movements,
in the hope of making quick, large gains

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 A type of investor who attempts to profit
from price inefficiencies in the market by
making simultaneous trades that offset each
other and captures risk-free profits. 
 An arbitrageur would, for example, seek out
price discrepancies between stocks listed on
more than one exchange, buy the
undervalued shares on one exchange while
short selling the same number of overvalued
shares on another exchange, thus capturing
risk-free profits as the prices on
the two exchanges converge.

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 Suppose that the exchange rates (after
taking out the fees for making the exchange)
in London are £5 = $10 = ¥1000 and the
exchange rates in Tokyo are ¥1000 = $12 =
£6.
 Converting ¥1000 to $12 in Tokyo and
converting that $12 into ¥1200 in London, for
a profit of ¥200, would be arbitrage.

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EXCHANGE TRADED OVER-THE COUNTER

 Traded on exchange  Private negotiated

contract
 standardized contract  Not standardized
common to all
participants  One Specified delivery
 Range of delivery dates.
dates  Credit risk

 No Credit risk

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 The derivatives trading on the
NSE commenced with S&P CNX
Nifty Futures on June 12,2000.
 The trading in index options
commenced on June 4,2001.
 Trading in options on individual
securities commenced on
July2,2001.
 Single stock futures were
launched on November 9,2001
 Today both in terms of volume
and turnover NSE is the largest
derivative exchange in India.
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 Currently the derivative
contracts have a
maximum of three months
of expiration cycles.
 Three contracts are
available for trading, with
1 month,2 months and 3
months expiry.
 A new contract is
introduced on the next
trading day following the
expiry of the near month
contract
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 The average daily turnover at NSE
now exceeds Rs.10000 crores.
 A total of 77,017,185 contracts with
the total turnover of Rs.2,547,053
crore were traded during 2004-2005.

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 Thank You.

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