Introduction to Foreign Exchange (FOREX) Market in India:
Several Foreign Nationals work in USA, London, Europe, Japan etc and they get their salary in United States Dollar, Great Britain Pound, Euro, and YEN respectively. These Foreign Nationals send their foreign earned money to their native country for investments, business, supporting their families/relatives/friends, philanthropy activities etc. Before sending money to their native places their first question is "What is the Foreign Exchange Rate" I am going to get?
People/Companies who are involved in exporting and importing, Companies who have their offshore units in foreign countries, BPOs (Business Process Outsourcing) , RPOs (Recruitment Process Outsourcing) , and Banks etc in order to get good exchange rate/avoid RISK also have the same question "What is the Foreign Exchange" I am going to get?
What is Foreign Exchange (FOREX)?
It is the value of the Foreign Currency to the Domestic Currency.
The currency codes for United States Dollar, Great Britain Pound, Euro, YEN, Rupee are USD, GBP, EUR, YEN and INR respectively.
Example 1: If a person in India is expecting 1000$ from his relative in USA, then the question is how much INR he will get for one US Dollar. Here the person is comparing the domestic currency with the foreign currency. He will be happy if USD to INR conversion is more.
Example 2: Many companies in India (InfoSys, Wipro, HCL, TCS, and Cognizant etc) receive their payment s in USD since they do project work for their USA clients. If they get 100,000 dollars from their USA clients and if USD to INR conversion is 40, then they get 40 lakhs. If conversion is 50 rupees, then they get 50 lakhs which will help them to increase their profits. When they announce their profit and loss statement in every quarter, their profit mainly depends on FOREIGN EXCHANGE.
Example 3: Some companies in USA have their branch offices in India. For their branch office expenses (salary, operations, maintenance) they send USD to their Branch Offices. if USD to INR conversion is more, then the branch will get more money for their expenses.
Example 4: A company in India signed a contract with an American client to buy a machine worth around 1 million USD on 1st April and USD to INR conversion rate is 50 rupees. In the contract, the Indian company has mentioned that it will pay the amount on or before 31st July 2013.
The Indian company doesn't have a million to pay to USA client immediately and they expect one million worth of rupees to be credited in July month. From 1st April, to July 31st, if USD strengthens or appreciates, then the Indian Company will need more INR to buy USD.
- In July, if the conversion rate is 50 rupees per USD, then total rupees required for 1 million dollar (10 lakhs dollar)
= 10 lakhs * 50 = 5 crores.
- In July, if the conversion rate is 55 rupees per USD, then total rupees required for 1 million dollar (10 lakhs dollar)
= 10 lakhs * 55 = 5.5 crores.
- Because of conversion rate, the company has to pay 5.5 crores (50 lakhs more) instead of 5 crores rupees.
To manage this risk (paying 50 lakhs more), they go with Forward Contracts or trade on futures or options.
Between 1999 and 2011, USD to INR conversion was around/below 50 rupees. In 2012, it went above 55 and from then on USD to INR conversion is
consistent around 55 rupees.
Currency Forward Contract
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