BANK FINANCIAL MANAGEMENT
INTERNATIONAL BANKING:
UNIT – 1: EXCHANGE RATES AND FOREX BUSINESS
1. Foreign Exchange: Conversion of
currencies from the currency of invoice to the home currency of the exporters
is called as Foreign Exchange.
2. Foreign Exchange Management Act (FEMA), 1999
defines Foreign Exchange as “All deposits, credits and balances payable in
foreign currency and any drafts, traveler’s Cheques, LCs and Bills of Exchange,
expressed or drawn in Indian Currency and payable in any foreign currency.” Any
instrument payable at the option of the drawee or holder, thereof or any other
party thereto, either in Indian Currency or in foreign currency, or partly in
one and partly in the other.
3. A Foreign Exchange transaction is a
contract to exchange funds in one currency for funds in another currency at an
agreed rate and arranged basis.
4. Exchange Rate means the price or the
ratio or the value at which one currency is exchanged for
5. Foreign Exchange markets participants
are
- Central Banks - Commercial Banks -
Investment Funds/Banks
- Forex Brokers - Corporations -
Individuals
6. The Forex Markets are highly dynamic,
that on an average the exchange rates of major currencies fluctuate every 4
Seconds, which effectively means it registers 21,600 changes in a day
(15X60X24)
7. Forex markets usually operate from
“Monday to Friday” globally, except for the Middle East or other Islamic
Countries which function on Saturday and Sunday with restrictions, to cater to
the local needs, but are closed on Friday.
8. The bulk of the Forex markets are OTC
(Over the Counter).
9. Factors Determining Exchange Rates:
- Balance of Payment - Economic Growth rate
- Fiscal policy
- Monetary Policy - Interest Rates -
Political Issues
- Government Control can lead to
unrealistic value.
- Free flow of Capital from lower interest
rate to higher interest rates
c) Speculative - higher the speculation
higher the volatility in rates
10. Due to vastness of the market,
operating in different time zones, most of the Forex deals in general are done
on SPOT basis.
11. The delivery of FX deals can be settled
in one or more of the following ways:
- Ready or Cash - TOM - Spot - Forward -
Spot and Forward
12. Ready or Cash: Settlement of funds
takes place on the same day (date of Deal)
13. TOM: Settlement of funds takes place on
the next working day of the deal. If the settlement dayIs holiday in any of the
2 countries, the settlement date will be next working day in both the
countries.
14. Spot : Settlement of funds takes place
on the second working day after/following the date of Contract/deal. If the
settlement day is holiday in any of the 2 countries, the settlement date will
be next working day in both the countries.
15. Forward: Delivery of funds takes place
on any day after SPOT date.
16. Spot and Forward Rates: On the other
hand, when the delivery of the currencies is to take place at a date beyond the
Spot date, it is Forward Transaction and rate applied is called Forward Rate.
17. Forward Rates are derived from Spot
Rates and are function of the spot rates and forward premium or discount of the
currency, being quoted.
18. Forward Rate = Spot Rte + Premium or –
Discount
19. If the value of the currency is more
than being quoted for Spot, then it is said to be at a premium.
20. If the currency is cheaper at a later
date than Spot, then it is called at a Discount.
21. The forward premium and discount are
generally based on the interest rate differentials of the
22. In a perfect market, with no
restriction on finance and trade, the interest factor is the basic factor in
arriving at the forward rate.
23. The Forward price of a currency against
another can be worked out with the following factors:
- Spot price of the currencies involved
- The Interest rate differentials for the
currencies.
- The term i.e. the future period for which
the price is worked out.
24. The price of currency can be expressed
in two ways i.e. Direct Quote, Indirect Quote.
25. Under Direct Quote, the local currency
is variable E.g.: 1 USD = `48.10
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