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Forex Risk Management by Indian firms


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Forex Risk Management by Indian firms

  1. 1. Managing Forex Risk – Indian Firms <br />
  2. 2. 1<br />Value Addition<br />Practical Aspects <br />Indian Firms <br />Strategies<br />Suggestions <br />Variants of Options <br />
  3. 3. 2<br />Foreign Exchange Risk Management <br />External<br />Futures<br />Forwards<br />Options<br />Swaps<br />Gold Dinar <br />Transfer Pricing <br />Back to Back Loan<br />Internal <br />Multilateral & Bilateral Netting<br />Leading & Lagging<br />Invoicing<br />Sourcing<br />Borrowing & Lending<br />Commodity Hedging<br />Matching<br />
  4. 4. Internal <br />3<br />Creating a natural hedge - Netting<br />Invoicingin the home currency<br />Currency diversification<br />Leading and lagging FX transactions<br />Counter-trade and currency offsets<br />Mark-ups<br />
  5. 5. Trend<br />4<br />
  6. 6. 5<br />CONTRACTS <br />Protects from Currency appreciation and depreciation both<br />BIOCON entered into a contract at 50 with a right to participate at upper side.<br />
  7. 7. Ranbaxy <br />6<br />
  8. 8. What Went Wrong ?<br />7<br />
  9. 9. The Strategy Used<br />8<br />
  10. 10. Ranbaxy – Analysis of Strategy<br />9<br />
  11. 11. When the value of underlying declines!!<br />10<br />
  12. 12. 11<br />When the value of underlying increases!!<br />11<br />
  13. 13. Ranbaxy – Proposed Solution<br />12<br />Buy a “CALL” option<br />Write a “PUT” option<br />
  14. 14. Gold Dinar – To Rescue <br />13<br />
  15. 15. Case of Aggressive Hedging<br />14<br />
  16. 16. Cont…<br />15<br />
  17. 17. SUGGESTION<br />16<br />Back-2-Back Loan hedging<br />For e.g.: Infosys wants to buy into a project in US that will repay the investment and earnings in Dollars over the next N years. <br />If it can identify an US company that wants to make a similarly sized investment in the India , it can arrange offsetting loan.<br />Under this arrangement, the companies are entering into a purely bilateral arrangement outside the scope of the foreign exchange markets. <br />Neither company is affected by exchange rate fluctuations. <br />Nevertheless, both companies remain exposed to default risk because the obligation of one company is not avoided by the failure of the other company to repay its loan.<br />
  18. 18. 17<br />Flavors of Options <br />
  19. 19. Hhh<br />Basket Option<br />Cheaper method for multinational corporations to receive/sell a basket of several currencies for one specified currency. <br />An example would be MacDonald's buying a basket option involving Indian rupees and British pounds in exchange for U.S. dollars.<br />Contingent Premium<br />European option<br />The premium will be paid if the contingent premium option finishes "in the money".<br />Otherwise, if the option expires "at the money" then, no premium will be paid.<br />Chooser Option<br />Purchased by paying up-front premium.<br />Path dependent option.<br />The terminal value of Chooser Option depends on the value of the underlie.<br />18<br />
  20. 20. Hhh<br />Compound Option<br />Option on an Option.<br />Compound Options are associated with two expiration dates and two strike prices.<br />Compound Option carries two types of option premiums. <br />Advantage: Allow for large leverage and are cheaper than straight options. <br />Ratchet Option<br />Also known as cliquet option.<br />Series of money options, with periodic settlement and resetting the strike value.<br /><ul><li>Regular Ratchet Options
  21. 21. Compound Ratchet Options</li></ul>Rainbow Option<br />Connected to more than two or two underlying assets. <br />Rainbow options may be used as instruments for hedging uncertainties pertaining to multiple assets.<br />19<br />
  22. 22. Barrier Options<br />There are single and double barrier options.<br />Is cheaper than plain vanilla option.<br />Basically of four types:<br /> > Up and in.<br /> >Up and out.<br /> >Down and in.<br /> >Down and Out.<br />
  23. 23. Knock-out:<br />Will be knocked out when the trigger price is reached, before the expiration date.<br />For call option, the trigger is set below the spot rate.<br />For put option, the trigger is set above the spot rate.<br />Premium gets cheaper as barrier gets closer to the spot rate.<br />
  24. 24. Knock-in:<br />Will be knocked in when the trigger price is met before the expiration date.<br />have an additional conditional component that cheapens the price of the premium.<br />The further the barrier to the spot rate, the cheaper the premium.<br />
  25. 25. Advantages & disadvantages of both Knock-In and Knock-out option<br />
  26. 26. Asian option:<br />Invented by David Spaughton and Mark Standish.<br />Reduced risk of market manipulation.<br />Is calculated by calculating underlier's average value through a specific period during the entire option life. <br />
  27. 27. Average option:<br />Pays out difference between its predetermined strike price and the spot rate of the underlying.<br />Average price/rate option:<br />Value is based on the difference between the strike and the average price of the underlying.<br />