Hedging Slides

8/9/2019 Hedging Slides

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HEDGING WITH

CURRENCY FUTURES

& OPTIONS



BC Hedging Comparison of Banks and MCX-SX

Buyers Credit HedgingWithout

Hedging

Hedging with

Banks

Hedging on

Exchange

LIBOR 0.75% 0.75% 0.75 %

Bank Spread 0.90% 0.90% 0.90%

LOU/ Limit Charges 1.00% 1.00% 1.00%

Total Interest Cost 2.65% 2.65% 2.65%

Premia in Paise for 1 Year 365 325

Hedging Cost 1 Year in % - 6.70% 5.96%

Total Cost for BC for 1 Year 2.65% 9.35% 8.61%

Saving in % Terms 0.73%

Saving on 1 Mio USD in Rs 400,000



+ =

Gains/Losses

in Cash Market

(BANK

REMMITANCE)

Gains / Losses

in Currency

Futures

Mitigation of

Risk

Cash Market Future Market

Hedging using Currency futures



Payoff of Hedge using MCX FutEXPORTS.

RATE On

Maturity

(FEB END)

BANK RATEIMPACT ON MCXSX

ACCOUNT

NET Realization

= Bank Rate + Exchange Gain/Loss

61 Rs. 61 / USD

Sold FEB month Futures @ 63

Buy back @ 61

GAIN = 2 Rs / USD

Realization at Bank = Rs61

Gain on MCXSX = Rs 2

Net RATE = 61 + 2 = Rs 63

65 Rs. 65 / USD.

Sold FEB month Futures @ 63

Buy back @ 65

LOSS = 2 Rs / USD

Realization at Bank = Rs 65

Loss on MCXSX = Rs 2

Net RATE = 65 - 2 = Rs 63

So if rupee moves either ways, corporate is hedged at a Fixed Rate

Transaction: Exporter executes an export order on 1st JAN& has inflows of $1, 00,000 to be received

on 28th FEB

Spot Rate of USDINR as on 1st JAN is Rs. 62.50 FEB Future Rate = 63.00

Exporters Risk: Rupee Feb appreciate & export proceeds of USD 1, 00,000 will be converted at a rate

lower than 64.50



Payoff of Hedge using MCX-SX EXPORTS.

RATE On

Maturity

(FEB END)


ACCOUNT

NET Realization


61 Rs. 61 / USD

Bot FEB End month Options @ 63

Premium Paid = Rs 0.50

GAIN = 2 – 0.50 = 1.50 Rs / USD


Gain on MCXSX = Rs 1.50

Net RATE = 61 + 1.50 = Rs 62.50

65 Rs. 65 / USD.

Bot FEB End month Options @ 63


LOSS = 0.50 Rs / USD


Loss on MCXSX = Rs 0.50

Net RATE = 65 – 0.50 = Rs 64.50

So if rupee moves either ways, corporate gets a rate ≥ 62.50 (63 - 0.50)

Transaction: Exporter executes an export order on 1st JAN& has inflows of $1, 00,000 to be received

on 28th FEB


Exporters Risk: Rupee Feb appreciate & export proceeds of USD 1, 00,000 will be converted at a rate

lower than 62.50



Payoff of Hedge using MCX-SX Fu IMPORTS.

RATE On

Maturity

(FEB END)


ACCOUNT

NET Payment


61 Rs. 61 / USD

Bot FEB month Futures @ 65

Sell back @ 63

Loss = 2 Rs / USD

Pymnt at Bank = Rs 63

Loss on MCXSX = Rs 2

Net RATE = 63 + 2 = Rs 65

65 Rs. 65 / USD.

Bot FEB month Futures @ 65

Sell back @ 67

GAIN = 2 Rs / USD

Pymnt at Bank = Rs 67

Gain on MCXSX = Rs 2

Net RATE = 67 - 2 = Rs 65

So if rupee moves either ways, corporate is hedged at a Fixed Rate

Transaction: Importer executes an import order on 1st JAN& has outflows of $1, 00,000 to be paid

on 28th FEB


Importers Risk: Rupee Feb depreciate & import proceeds of USD 1, 00,000 will be converted at a rate

higher than 62.50



Payoff of Hedge using MCX-SX IMPORTS.

RATE On

Maturity

(FEB END)


ACCOUNT

NET Payment


61 Rs. 61 / USD

Bot FEB End Call Options @ 63


LOSS = 0.50 Rs / USD

Payment at Bank = Rs 61

Loss on MCXSX = Rs 0.50

Net RATE = 61+ 0.50 = Rs 61.50

65 Rs. 65 / USD.

Bot FEB End Call Options @ 63


GAIN = 2 -0.50= 1.50 Rs / USD

Payment at Bank = Rs 65

Gain on MCXSX = Rs 1.50

Net RATE = 65 – 1.50 = Rs 63.50

So if rupee moves either ways, corporate gets a rate ≤ 63.50 (63 + 0.50)

Transaction: Importer executes an import order on 1st JAN& has outflow of $1,00,000 to be made

on 28th FEB


Importers Risk: Rupee Feb depreciate & import payment of USD 1,00,000 will be made at a rate

higher than 62.50



Transaction: Importer executes an import order on 1stJan’2014 & has inflows of $1, 00,000

to be made on 28/03/14.

Spot Rate of USDINR as on 01/01/14 is Rs.63.00/-

Importer Risk: Rupee may appreciate & import proceeds of USD 1, 00,000 will be convertedat a rate higher than 63.00

SCENARIO 1 SCENARIO 2 SCENARIO 3

HEDGING BANK SPOT

RATE

ON 01/01/14 63 63 63

OPTIONS

PREMIUM

COST

BUY CALL 1 1 1

BANK SPOT

RATE

ON 28/02/14 60 63 66

GAIN/ LOSS ON 28/02/14 63-60-1=2 63-63-1=(1) 63-66+2=(1)

REMARKS: IN CASE OF UPSIDE THE MAXIMUM LOSS IS RESTRICTED TO Re.1, BUT THE

PROFIT SIDE IS UNLIMITED IF SPOT RATE REDUCES



ARBITRAGE OPPORTUNIT EXAMPLE

Arbitrage means Buying & Selling, same Quantity, simultaneously at thesame time in 2 different Markets for Risk Less Profits.

Illustration: Between Bank Forwards and MCX-SX Futures.

MCXSX Futures = 62.00 (1 month Futures Contract)

Bank Fwds = 62.08 (1 month forward contract)

Strategy : SELL in Bank & BUY in Futures – same maturity – and square off

on maturity – simultaneously in both platforms.

Net Gain = 62.08 -62.00 = 08 Paise

Less Cost Of Transaction = 02 Paise

Arbitrage opportunity = 06 Paise / USD

Arbitrage will be realized at the expiry of the contract.

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