FAQ
What is Currency?
Foreign exchange is the simultaneous buying of one currency and selling of another.
Currencies are traded through a broker or dealer and are executed in currency pairs.
For example: the Euro and the US Dollar (EUR/USD) or the British Pound and the Japanese
Yen (GBP/JPY). The Foreign Exchange Market (Currency) is the largest financial market
in the world, with a daily volume of over $4 trillion.
What is a Spot Market?
A Spot Market is any market that deals in the current price of a financial instrument.
Futures markets, such as the Chicago Mercantile Exchange (CME), National Stock Exchange
(NSE), MCX' SX, BSE offer currency futures contracts whose delivery dates may span
several months into the future. Settlement of Currency spot transactions usually
occurs within two business days.
Who trades in Foreign Exchanges?
There are two main groups that trade in currencies. About 5-10% of daily volume
is from companies and governments that buy or sell products and services in a foreign
country and must subsequently convert profits made in foreign currencies into their
own domestic currency in the course of doing business. This is primarily hedging
activity. The other 90-95% consists of investors trading for profit, or speculation.
Speculators range from large banks trading 10,000,000 million currency units or
more and the home-based operator trading perhaps 10,000 units or less. Today, importers
and exporters, international portfolio managers, multinational corporations, speculators,
day traders, long-term holders, and hedge funds all use the FOREX market to pay
for goods and services, to transact in financial assets, or to reduce the risk of
currency movements by hedging their exposure in other markets.
Who can trade in Currency Futures markets in India?
Any resident Indian, company, importers and exporters, international portfolio managers,
multinational corporations, speculators, day traders, long-term holders, and hedge
funds all use the Currency market to pay for goods and services, to transact in
financial assets, or to reduce the risk of currency movements by hedging their exposure
in other markets.
However, at present, Foreign Institutional Investors (FIIs) and Non-Resident Indians
(NRIs) are not permitted to participate in currency futures market.
How are currency prices determined?
Currency prices are affected by a variety of economic and political conditions,
but probably the most important are interest rates, international trade, inflation,
and political stability. Sometimes governments actually participate in the foreign
exchange market to influence the value of their currencies. They do this either
by flooding the market with their domestic currency in an attempt to lower the price
or, conversely, buying in order to raise the price. This is known as Central Bank
Intervention.
What are the major fundamental factors that affect currency movements?
Trade Balance – This refers to imports and exports, and is probably
the most important determinant of a currency's value. When imports are greater than
exports, you have a trade deficit. When exports are greater than imports, you have
a surplus. A shift in the trade balance between two countries tends to weaken the
currency of the country with greater deficit.
Wealth – Wealth is a country's reserves, in the form of gold, cash,
natural resources, and so on. Any factor that affects a country's ability to repay
loans, finance imports, and affect investments affects the market's perception of
its currency and the currency's value.
Internal Budget Deficit or Surplus – A country running a current
account deficit has, on balance, a weaker currency than one that runs a budget surplus.
This is tricky, however, in that the direction of the surplus or deficit affects
perceptions and currency valuations too.
Interest Rates – Funds travel globally in electronic format responding
to changes in short-term interest rates. If three-month interest rates in Germany
are running 1% less than three-month rates in the United States, then all other
things being equal, ‘hot money’ flows out of Euro into the Dollar.
Inflation – Inflation in each country and inflationary expectations,
affect currency values.
Political factors – Taxes, stability and other factors that affect
the international trade of a country or the perception of ‘soundness’ of the currency
affect its valuation.
If I am an individual trader or investor with no experience to foreign exchange
risks,
does a currency futures exchange mean anything to
me?
Yes, it does, if you want to invest purely as an investor. You can benefit from
exchange rate fluctuations just as you can benefit by investing in equities in the
stock market. However, as in the stock markets, you also stand to lose money if
the price movements are not in keeping with what you had anticipated. Participating
in a currency futures exchange is risky, just as the stock market is. You should
therefore be knowledgeable about the currency market if you want to participate
as an investor.
