Basic of currency market for beginners currency evolution and Indian currency market. Traiding in Indian currency market Knowledge regarding currency market knowledge of currency market

1. CURRENCY MARKET

2. EVOLUTION
• The Barter era-People exchange goods for other goods (or services). A classic example
would be – say a farmer has harvested cotton, he could exchange (or barter) cotton with
another farmer giving him wheat. Similarly a farmer who has oranges could exchange the
oranges he has harvested with someone who agrees to wash his cows and sheep.
• Goods for Metal era-Metal was divisible, easily movable, and metal had no issue with shelf
life. Further, of all the metals, Gold and Silver were the most popular; therefore eventually these
metals became the standard for transactions.
• The Gold Standard era-Taking gold as base value of domestic currencies was calculated and
gold was transacted

3. As things progressed, geo political situation changed (world
wars, civil wars, cold wars etc) and so did the economic situation
across the world. When it came to cross border transactions,
there was an urgent need for merchants to trust one currency
and value their own currency against that currency. This is when
‘Bretton Woods System’ came to the picture.

4. BRETTON WOODS SYSTEM
The BWS was a way of defining the monetary relationship between countries,
where the currencies were pegged to USD at a fixed rate while the value of the
USD itself was marked against the value of Gold. Countries accepted this system
with a room for 1% variation either side (against the pegged value). Needless to
say, with BWS in place the USD became the currency the world transacted in, as
USD was backed by Gold.
Developed countries slowly withdrew from the BWS system and eventually BWS
became history. Countries adopted a more market driven approach, where the
market decided the value of one currency against the other. The market drives the
value of currencies based on the political and economic landscape of a country
versus the other.

5. INTERNATIONAL CURRENCY MARKET (FOREX)
“currency markets chases the Sun”
Before Indian markets are open, the Australian, Japanese, Hong Kong, and
Singapore markets are open. In fact we get some overlap with these markets.
While the Southeast market closes, Indian markets would have just warmed up
with Middle Eastern markets opening up. This leads to the European markets
opening up – London, Frankfurt, and Paris being the financial nerve center of
the Europe. In fact Indian markets are situated in a sweet spot as our time
zone overlaps with major Southeast Asian markets and the European markets.
Finally the US markets open, followed by the Japanese markets and the cycle
continues 24 hours a day, 6 days a week!

6. CURRENCY PAIRS AND QUOTES
Base Currency / Quotation Currency = value
• Base Currency – Base Currency is always fixed to 1 unit of a currency
(like 1 US Dollar, 1 Indian Rupee, 1 Euro etc)
• Quotation Currency – Refers to another currency which equates to the
base currency (obviously it can be any currency apart from the base
currency)
• Value – Indicates the value of the Quotation Currency against the
Base Currency.

7. Let take an example to make it clearer. Assume USD/INR = 67.
• The Base Currency here is USD, and as I mentioned earlier the Base
Currency is always fixed to 1 unit, hence this is fixed to 1 US Dollar.
• Quotation Currency is in Indian Rupees (INR)
• Value is 67, which means for 1 unit of Base Currency i.e. 1 USD the
equivalent quotation currency is 67. In simpler terms $1 = Rs.67.

9. STRENGTHENING/WEAKENING OF A CURRENCY
• Base currency strengthens when it can buy more units of
quotation currency. For example USD INR moves from 67 to 68
it means the base currency (USD) strengths and the quotation
currency (INR) weakens.
• Quotation currency strengths when the base currency buys
lesser units of quotation currency. For example USD INR moves
from 66 to 65 it means the base currency (USD) weakens and
the quotation currency (INR) strengthens.

10. RATE FIXING AND CONVERSION PATH
1. RBI has identified a list of banks based on their market share in the foreign
exchange market. RBI calls them the ‘contributing banks’
2. Every day between 11:30AM and 12:30PM RBI calls a set of banks
(randomly selected) listed under the contributing banks and ask them to
give a two way quote on USD INR
3. RBI collates these rates and averages out the rate based on the bid and ask
4. The average rate is set as the USD INR rate for the day
5. The same process is repeated every day except for weekends and bank
holidays

11. EVENTS THAT MATTER
Import/Export Data – These numbers are highly significant, especially for a country like
India, whose economy is highly sensitive to trade deficits. India exports goods and services
such as rice and software and imports commodities such as crude oil and bullion. In
general, increase in exports tends to strength domestic currency and increase in imports
tends to weaken the domestic currency.
• When imports are made (crude oil for example), the purchase has to be made in the
International market which requires one to pay in USD. Therefore one has to sell INR and
buy USD to facilitate this purchase, which in turn causes a demand for USD and hence USD
strengths.
• We can extend the same logic to exports. When we export goods, we receive USD; we sell
the USD received and convert to INR. This causes the INR to strength.

12. • The Trade Deficit – the excess of imports over exports is a key factor to track as
it influences the direction in which the currency trades. In general, narrowing the
trade deficit is a positive for the domestic currency. The trade deficit is also
referred to as the ‘Current account deficit’.
• Interest Rates – Typically investors borrow money from countries where the
interest rate is low and invest in countries where the interest rates are high and
profit from the interest rate difference. This is called the ‘carry trade’. Clearly
the country offering higher interest attracts a lot more foreign investment into
the country, naturally this leads to the strengthening of the domestic currency.
This clearly implies that the ‘Interest rate’ is one big number currency traders
watch out for.

13. TONE OF POLICY
• Dovish – Dovish is a term used to describe the central bank’s stance
wherein they are likely to lower the interest rate in the future.
Remember, lower interest rate weakens the domestic currency. Here
is a new headline talking about the relationship between a dovish
stance and the currency.
• Hawkish – Hawkish is a term used to describe the central bank’s
stance wherein they are likely to increase the interest rate in the
future. Remember, higher interest rates attract foreign investments
to the country and therefore strengthens the domestic currency.

14. INFLATION
One of the direct mechanisms to curb inflation is by tweaking the
interest rates. If the inflation is perceived as high, then the central
bank is likely to take a hawkish stance and increase the interest rates.
When interest rates increase, the domestic currency strengths!
if the inflation is high, expect a hawkish stance by the central
government and therefore expect the domestic currency to strengthen.
Likewise, if inflation is low, expect a dovish stance (as the central
bankers wants to encourage spending), therefore the interest rates are
likely to come down. This leads to the domestic currency weakening.

15. • Consumer Price Index (CPI) – The CPI is a time series data, averaged
out to capture the prices of basic goods and services. Hence the CPI
is a measure for inflation. A rising CPI means inflation is increasing,
and vice versa.
• Gross Domestic Product (GDP) – The GDP of a country represents the
total Rupee value (for Indian GDP of course) of all the goods and
services produced in the country for a given year. Higher the GDP
growth rate, higher is the investor confidence in that country, and
therefore the stronger the countries domestic currency.

17. • Expiry of currency is two days before last trading day.
• MARGIN FACILITY : We’ll be trading on margin hence no need
to pay the full amount for what we trade. When you buy 1
lot(1000qty) of usdinr future contract at rs 63/, you’re buying
amount is Rs 63,000/. As we are trading future, so we get a
margin facility of paying 3% of total investment & enjoy the
gains on total buying amount. So to buy 1 lot of usdinr , we
just need to pay rs 1900/ instead of paying rs 63,000/.