Currency Derivatives In India
The introduction of currency derivatives in India is a landmark decision which is likely to be a boon for importers, exporters and companies with foreign exchange exposure. These derivative products have a wide range with their special features suiting to the needs and requirements of the individuals. As currency derivative is new to India, it is time to have a broad understanding of them which are mostly couched in jargons and technical terms. Thus the very subject raises a kind of aversion for the common people. The currency derivatives are contracts just like any other derivatives viz., Stock, Index etc. Unlike the stock, the underlying in this case is currencies. The value of the currencies determine the values of the currency derivatives.
A s it is universally accepted that market risks are ones which can not eliminated in absolute terms. But their management is perfectly possible. The currency derivatives are efficient tools for management of risks in money and forex markets. The need to protect the exposure against unforeseen and unpredictable movement in currency and interest rates have led to the emergence of these kinds of derivatives. Thus external borrowings or receivables or payments in foreign currencies come within the purview of management under it .As we all know the exporters and importers incur huge obligations in terms of foreign currencies and they can guard their interest by buying appropriate products.
Derivatives which are based on currency exchange rates are known as forward contracts, forward contracts contain stipulation as to the rate at which exchange takes place between two currencies at a future date. This form derivatives are extensively resorted by the exporters and importers to secure their positions by making contracts with their respective banks. It is important to note that on the appointed date the contracts have to be honoured and the difference between the market rate prevailing on the appointed date and the contracted rate has to be coughed up and if the parties agree to a postponement to a future date the differentical has to be squared up.
There is a basic difference between a forward contract and an option. A forward contract is characterized by an obligation as well as a right. But in the case of an option no obligation to perform exists. Thus the buyer of a forward contract can make an upfront gain or loss all depending on the situation of the currency viz., whether it is in premium or discount. But a buyer of a currency option can decide to ignore as he is not placed under any obligation.