CAIIB Super-Notes

M S Ahluwalia
Sirf Business

Exchange Rates and Forex
Business
Module A: International Banking

CAIIB Super-Notes
M S Ahluwalia
Sirf Business
CAIIB SUPER NOTES
Bank Financial Management: Exchange Rates and Forex
Business
CAIIB Super-Notes M S Ahluwalia Sirf Business
Contents
Coera!e"
1.Foreign Exchange Denition and Markets
!.Factors Determining Exchange Rates
".Exchange Rate Mechanism
#.Foreign Exchange Dealing Room $%erations
&.RBI'FEDAI (uidelines
CAIIB Super-Notes
M S Ahluwalia
Sirf Business
F$REI() E*C+A)(E DEFI)I,I$) A)D
MAR-E,.
1.
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M S Ahluwalia
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Foreign Exchange/
Denition
Con0ersion o1 currencies 1rom the currenc2 o1 in0oice to
the home currenc2 o1 the ex%orters generall2 re3uired
1or cross 4order trade
A For Ex ,ransaction is a contract to exchange 1unds in
one currenc2 1or 1unds in another currenc2 at an agreed
rate and arranged 4asis.
All claims %a2a4le a4road5 6hether consisting 1unds
held in 1oreign currenc2 6ith 4anks a4road or 4ills5
checks %a2a4le a4road.
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For Ex / FEMA Denition
Foreign Exchange means 1oreign currenc2 and
includes:
i7All de%osits5 credits and 4alances %a2a4le in 1oreign
currenc25 and an2 dra1ts5 tra0eler8s che3ues5 letters o1 credit
and 4ills o1 exchange5 ex%ressed or dra6n in Indian currenc2
and %a2a4le in an2 1oreign currenc25
ii7An2 instrument %a2a4le at the o%tion o1 the dra6ee or
holder thereo1 or an2 other %art2 thereto5 either in Indian
currenc2 or in 1oreign currenc25 or %artl2 in one and %artl2 in
other.
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ForEx Market 9artici%ants
Central Banks
Commercial Banks
In0estment 1unds'4anks
ForEx 4rokers
Cor%orations
Indi0iduals
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Foreign Exchange Markets
Characteristics:
!# hour market
an o0er the counter market
a glo4al market 6ith no 4arriers'no s%ecic location
su%%orts large ca%ital and trade :o6s
highl2 li3uid markets
high :uctuations in currenc2 rates
settlements a;ected 42 time <one 1actor
markets a;ected 42 go0ernmental %olicies and controls
CAIIB Super-Notes
M S Ahluwalia
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FAC,$R. DE,ERMI)I)( E*C+A)(E
RA,E.
!.
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Factors Determining
Exchange Rates
CAIIB Super-Notes M S Ahluwalia Sirf Business
E*C+A)(E RA,E MEC+A)I.M
".
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,2%es o1 ,ransactions
=Date on 6hich exchange o1 currencies actuall2 takes %lace
>alue date
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For6ard Margins 9remium
and Discounts
For6ard Rate ? .%ot Rate @ 9remium Aor / Discount7
9remium: For6ard >alue o1 Currenc2 B .%ot >alue
Discount: .%ot >alue o1 Currenc2 B For6ard >alue
In a %er1ect market5 6ith no restriction on Finance and
,rade5 the interest 1actor is the 4asic 1actor in arri0ing at
the 1or6ard rate
For6ard %rice o1 a currenc2 can 4e 6orked out on the
4asis o1:
.%ot %rice o1 the currencies in0ol0ed
,he interest rate di;erentials 1or the currencies
,he term5 i.e.5 the 1uture %eriod 1or 6hich the %rice is 6orked out
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,2%e o1 Cuotes
Internationall25 all currencies other than (B95 Euro5 ADD and )ED are
3uoted as direct rates.
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Cross Rates
Fhen rates 1or a %articular currenc2 %air are not
directl2 a0aila4le
Ex:
D.D'I)R Rate is #G.1H'11
(B9'D.D Rate is 1.&HHH'1H
(B9'I)R Rate 6ill 4e: #G.1H x 1.&HHH'#G.11 x 1.&H1H
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Fixed 0s. Floating Rates
Fixed Rate: $Icial rate set 42 the monetar2
authorities 1or one or more currencies
Floating Rate: >alue o1 the currenc2 decided 42
su%%l2 and demand 1actors
,he :oating rate s2stem is %re0alent in the 6orld
market since 1GJ". India ado%ted the same in
1GG".
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Bid and $;ered Rates
Bid rate: Bu2ing Rate
$;ered Rate: .elling Rate
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,erminolog2
1 9er Mille: 1 %art in e0er2 thousand
>aluer Com%ensee %a2ments: Fhere 0alue date is
same in 4oth centers
Ar4itrage:
.im%le'Direct Ar4itrage: Bet6een ! centers onl2
Com%ound',hree Aor more7 9oint Ar4itrage: Fhere additional
centers are in0ol0ed
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F$REI() E*C+A)(E DEAKI)( R$$M
$9ERA,I$).
#.
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Functions
1.,o meet re3uirements o1 customers o1 other
4ranches'di0isions to 4u2 or sell 1oreign currenc2.
!.Manage Foreign currenc2 assets and lia4ilities.
".Fund and manage )ostro accounts
#.Dndertake %ro%rietar2 trading in currencies.
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" 9arts o1 a Dealing Room
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9ositions
CAIIB Super-Notes M S Ahluwalia Sirf Business
,erminolog2
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MaLor Risks associated 6ith ForEx
Dealing $%erations
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RBI'FEDAI (DIDEKI)E.
&.
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Categorisation o1 Authorised
9ersons
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FEDAI (uidelines'Rules
1..tandard transit %eriod 1or ex%ort 4ills
!.Cr2stallisation o1 4ills in 1oreign currenc2 in case o1 dela2 in
realisation 6ithin MH da2s
"..ight 4ills 1or Im%ort KC 6ould cr2stallise on 1Hth da2 a1ter
date o1 recei%t
#.For6ard contracts to ha0e denite amounts and s%ecic
deli0er2 dates
&.Deli0er2 %eriod under o%tion contract shall not exceed one
month
M.All 1or6ard contracts to 4e automaticall2 cancelled on the
Jth 6orking da2 a1ter maturit2 i1 not %icked u%
J.All cancellation at Bank8s o%%osite ,, rates
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FEDAI (uidelines'Rules
N.Interest O !P a4o0e the %rime rate o1 the currenc2 to 4e
charged in e0ent o1 dela2 in %a2ment o1 inter4ank 1oreign
currenc2 1unds
G.Interest O !P a4o0e the ).E MIB$R to 4e charged in e0ent
o1 dela2 in %a2ment o1 ru%ee settlement 1unds
1H.All currencies to 4e 3uoted as:
9er unit o1 Foreign currenc2 ?I)R. Ex: Q1 ? Rs #&.MJ
Exce%t R9S5 Indonesian Ru%aih and -en2an .chilling. ,o 4e 3uoted as
1HH units o1 Foreign currenc2 ? I)R.
FEDAI also %rescri4es code o1 conduct 1or F$RE* dealers5 as also
guidelines 6ith regard to dealings 6ith 1orex 4rokers.
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RBI (uidelines
(uidelines related to:
$%en %ositions
(a%s
Borro6ing and Kending in Foreign currencies
Inter4ank dealings in India and o0erseas markets
+edging o1 4ank8s o6n ex%osures as 6ell as that o1 its
resident and non/resident clients
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RBI (uidelines
1.AD CA, 1 Banks allo6ed to o%en'close ru%ee accounts
1.In names o1 o0erseas 4ranches or corres%ondents 6ithout %rior re1erence to
RBI
!.In names o1 exchange houses 6ith %rior re1erence to RBI
!.AD CA, 1 Banks allo6ed to o%en'close 1oreign currenc2
accounts a4road
".AD CA, 1 Banks can undertake in0estments in o0erseas
markets in mone2 market instruments and'or de4t instruments5
issued 42 1oreign state5 maturit2 T 1 2r5 rated as %er guidelines
#..ur%lus 1unds in )ostro accounts can 4e used 1or
1.(ranting Koans to resident constituents
!.Extending credit 1acilities to Fholl2 $6ned .u4sidiaries'R>s o1 Indian
com%anies a4road
CAIIB Super-Notes
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RBI (uidelines
&.All 4orro6ings in )ostro accounts Aincluding ECB and ,em%.
$0erdra1t7 not adLusted 6ithin & da2s shall not exceed &HP o1
their unim%aired ,ier 1 Ca%ital or D.D 1H million 6hiche0er is
higher
M.Banks can allo6 4anks to 4ook For6ard Exchange contracts to
hedge their exchange risk ex%osure
/,he genuineness o1 the underl2ing documentar2 e0idence and ex%osure
must 4e ascertained
J.Banks can allo6 im%orters'ex%orters to 4ook F6d. Contract on
4asis o1 declaration o1 the ex%osure 6ith limit 4ased on %ast
%er1ormance
N..ME customers ma2 4e allo6ed to 4ook 1or6ard contracts in
alignment 6ith the credit 1acilities a0ailed 42 it 1rom the 4ank

CAIIB Super-Notes
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RBI (uidelines
G.Banks can allo6 resident indi0iduals to 4ook For6ard
contracts on deli0era4le 4asis 6ith tenors u% to 1 2ear u% to a
limit o1 D.D Q 1HH5HHH.
1H.Banks can o;er other deri0ati0e contracts to resident
entities 6ho ha0e 4orro6ed 1oreign exchange in accordance
6ith the %ro0isions o1 FEMA 1GGG
11.Banks can also o;er Foreign currenc2 Ru%ee .6a% to
resident entities that ha0e a 1orex or ru%ee lia4ilit2 to hedge
long term ex%osure
1!.Banks can enter into cross currenc2 o%tions and 1oreign
currenc2/ru%ee o%tions 6ith their customers on 4ack to 4ack
4asis
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