INTRODUCTION:

FOREIGN EXCHANGE MARKET AN OVERVIEW:

In todays world no economy is self sufficient, so there is need for exchange of goods and
services amongst the different countries. So in this global village, unlike in the ancient age the
exchange of goods and services is no longer carried out on barter basis. Every sovereign country
in the world has a currency that is legal tender in its territory and this currency does not act as
money outside its boundaries. So whenever a country buys or sells goods and services from or to
another country, the residents of two countries have to exchange currencies. So we can imagine
that if all countries have the same currency then there is no need for foreign exchange.
The Foreign Trading Market is regarded as the biggest financial market. It is this market that is
responsible for the trading of currencies. Very large amounts of currency are traded by large
organizations such as financial institutions, multinational corporations, currency speculators,
central banks and government. The foreign exchange market is regarded as the most suitable
market for this trade and superior to the New York Stock Exchange (NYSE). US $ 2 trillion is
handled each day by the foreign exchange market. The New York Stock Exchange handles US $
50 billion each day. As soon as one kind of currency is traded for another kind then it regarded as
foreign exchange market. This market allows for the trading of any kind of currency.
There are currencies as different from one another as the US dollar and the Swiss franc and the
Japanese yen. The foreign exchange market does not cater only to the needs of the biggest
institutions as was the case in previous years. Nowadays, smaller enterprises also take advantage
of the foreign exchange market. In fact there are many people who use this market because it has
the potential to yield good profits. This has become apparent to thousands of individuals who are
taking part in the buying and selling of currencies. But it is always a good idea to have as much
background information as possible in order to make informed decisions. Everybody wants to be
successful.
The foreign exchange market one that is unique. This is a market that has an enormous diversity
of traders situated around the globe.

The foreign exchange market is unique because of following:

trading volume results in market liquidity

geographical dispersion

continuous operation: 24 hours a day except weekends, i.e. trading from 20:15 UTC on
Sunday until 22:00 UTC Friday

the variety of factors that affect exchange rate

the low margins of relative profit compared with other markets of fixed income

the use of leverage to enhance profit margins with respect to account size

NEED FOR FOREIGN EXCHANGE:

In todays world no country is self sufficient, consequently there is a need for exchange of goods
& services amongst different countries. Every sovereign country in the world has a currency
which is a legal tender in its territory & this currency does not act as money outside its
boundaries. Therefore whenever a country buys or sells goods and services from one country to
another, the residents of two countries have to exchange currencies. Hence, Forex markets acts as
a facilitating mechanism through which one countrys currency can be exchanged i.e. bought or
sold for the currency of another company.
Features of the market
Liquidity:
The market operates the enormous money supply and gives absolute freedom in opening or
closing a position in the current market quotation. High liquidity is a powerful magnet for any
investor, because it gives him or her freedom to open or to close a position of any size whatever.
Promptness:
With a 24-hour work schedule, participants in the FOREX market need not wait to respond to
any given event, as is the case in many markets.
Availability:
A possibility to trade round-the-clock; a market participant need not wait to respond to any given
event.
Flexible regulation of the trade arrangement system:
A position may be opened for a predetermined period of time in the
FOREX market, at the investors discretion, which enables to plan the timing of ones future
activity in advance.
Value:
The Forex market has traditionally incurred no service charges, except for the natural bid/ask
market spread between the supply and the demand price.
One-valued quotations:
With high market liquidity, most sales may be carried out at the uniform market price, thus
enabling to avoid the instability problem existing with futures and other forex investments where
limited quantities of currency only can be sold concurrently and at a specified price.
Market trend:

Currency moves in a quite specific direction that can be tracked for rather a long period of time.
Each particular currency demonstrates its own typical temporary changes, which presents
investment managers with the opportunities to manipulate in the FOREX market.
Margin:
The credit leverage (margin) in the FOREX market is only determined by an agreement between
a customer and the bank or the brokerage house that pushes it to the market and is normally
equal to 1:100. That means that, upon making a $1,000 pledge, a customer can enter into
transactions for an amount equivalent to $100,000. It is such extensive credit leverages, in
conjunction with highly variable currency quotations, which makes this market highly profitable
but also highly risky.

Let us consider a case:

Where Indian company exports cotton fabrics to USA and invoices the goods in US dollar. The
American importer will pay the amount in US dollar, as the same is his home currency.

Exports Cotton
Fabrics
Exporter

Importer
USA

Indian

Co.

US $

However the Indian exporter requires rupees means his home currency for procuring raw
materials and for payment to the labor charges etc. Thus he would need exchanging US dollar for
rupee.

If the Indian exporters invoice their goods in rupees, then importer in USA will get his dollar
converted in rupee and pay the exporter.
Exports

$ convert
USA

Rs.

Indian Co.

Exporter is paid in Rs.

From the above example we can infer that in case goods are bought or sold outside the country,
exchange of currency is necessary. Sometimes it also happens that the transactions between two
countries will be settled in the currency of third country. In that case both the countries that are
transacting will require converting their respective currencies in the currency of third country.
For that also the foreign exchange is required.

OVER-THE-COUNTER TRADING:
Foreign exchange market there is no for market place called the foreign exchange market. It is
mechanism through which one countrys currency can be exchange i.e. bought or sold for the
currency of another country. The foreign exchange market does not have any geographic
location.
Foreign exchange market is described as an OTC (over the counter) market as there is no
physical place where the participants meet to execute the deals, as we see in the case of stock
exchange. The largest foreign exchange market is in London, followed by the New York, Tokyo,
Zurich and Frankfurt. The market is situated throughout the different time zone of the globe in
such a way that one market is closing the other is beginning its operation. Therefore it is stated
that foreign exchange market is functioning throughout 24 hours a day. In most market US dollar

is the vehicle currency, viz., the currency sued to dominate international transaction.

OTC PRODUCT PERMITTED IN

OTC
DERIVATIVES

INTEREST
RATE
DERIVATIVES

INTEREST
FOREIGNFORWARD CROSS
RATE
EXCHANGE RATE CURRENCY
AGREEMENT
SWAPS
FORWARDS
FORWARDS

FOREIGN
CURRENCY
RUPEE
SWAPS

FOREIGN
CURRENCY
DERIVATIVES

CROSS
CURRENCY
OPTIONS

FOREIGN
CURRENCY
RUPEE
OPTIONS

Why Hold Forex Reserves?

Technically, it is possible to consider three motives i.e., transaction, speculative and

precautionary motives for holding reserves. International trade gives rise to currency flows,
which are assumed to be handled by private banks driven by the transaction motive. Similarly,
speculative motive is left to individual or corporate. Central bank reserves, however, are
characterized primarily as a last resort stock of foreign currency for unpredictable flows, which
is consistent with precautionary motive for holding foreign assets. Precautionary motive for
holding foreign currency, like the demand for money, can be positively related to wealth and the
cost of covering unplanned deficit, and negatively related to the return from alternative assets.

From a policy perspective, it is clear that the country benefits through economies of scale by
pooling the transaction reserves, while sub serving the precautionary motive of keeping official
reserves as a war chest. Furthermore, forex reserves are instruments to maintain or manage the
exchange rate, while enabling orderly absorption of international money and capital flows. In
brief, official reserves are held for precautionary and transaction motives keeping in view the
aggregate of national interests, to achieve balance between demand for and supply of foreign
currencies, for intervention, and to preserve confidence in the countrys ability to carry out
external transactions.

Reserve assets could be defined with respect to assets of monetary authority as the custodian, or
of sovereign Government as the principal. For the monetary authority, the motives for holding
reserves may not deviate from the monetary policy objectives, while for Government; the
objectives of holding reserves may go beyond that of the monetary authorities. In other words,

the final expression of the objective of holding reserve assets would be influenced by the
reconciliation of objectives of the monetary authority as the custodian and the Government as
principal. There are cases, however, when reserves are used as a convenient mechanism for
Government purchases of goods and services, servicing foreign currency debt of Government,
insurance against emergencies, and in respect of a few, as a source of income.

The Products of the Foreign Exchange Market

1. The Spot Market:
The spot market is the exchange market for payment and delivery today. In practice,
"today" means today only in the retailer tier. Currencies traded in the wholesale tier spot
market have customary settlement in two business days. I.8 In the interbank market,
dealers quote the bid and the ask, willing to either buy or sell up to USD 10 million at the
quoted prices. These spot quotations are good for a few seconds. If a trade is not done
immediately over the phone or the computer, the quotes are likely to change over the next
seconds. Traders use a particular system when quoting exchange rates. For example, the
USD/JPY bid-ask quotes: .009002-.009063. The ".0090" is called the big figure, and it is
assumed that all traders know it. The last two digits are referred as the small figure. Thus,
it is clear for traders the meaning of a telephone quote of "02-63." In 2013, the BIS
estimated that the daily volume of spot contracts was USD 1.759 trillion (38% of total
turnover). Again, the majority of the spot trading is done between financial institutions.
Only 19 percent of the daily spot transactions involved non-financial customers. The high
volume of interbank trading is partially explained by the geographically dispersed nature
of the market. Dealers trade with one another to take and lay off risks, and to discover
transaction prices. Discovering other dealers' prices help dealers to determine the position
of the market and then establish their prices. 2.B.1.i Direct and Indirect Quotations An
exchange of currencies involves two currencies, either of which may arbitrarily be
thought as the currency being bought. That is, either currency may be placed in the
denominator of an exchange rate quotation. When exchange rates are quoted in terms of
the number of units of domestic currency per unit of foreign currency, the quote is
referred to as direct quotation. On the other hand, when exchange rates are quoted in
terms of the number of foreign currency units per unit of domestic currency, the quote is
referred to as indirect quotation. The indirect quotation is the reciprocal of the
corresponding direct quotation. Most currencies are quoted in terms of units of currency
that one USD will buy. This quote is called "European" quote. Exceptions are the "Anglo
Saxon" currencies (British Pound (GBP), Irish punt (IEP), Australian dollar (AUD), the
New Zealand dollar (NZD)), and the EUR. This second type of quote is also called
"American quote." Example I.2: Quotations. (A) Indirect quotation: JPY/USD (European

quote). Suppose a U.S. tourist wishes to buy JPY at Los Angeles International Airport. A
quote of JPY 110.34- 111.09 means the dealer is willing to buy one USD for JPY 110.34
(bid) and sell one USD for JPY 111.09 (ask). For each USD that the dealer buys and sells,
she makes a profit of JPY .75. (B) Direct quotation: USD/JPY (American quote). If the
dealer at Los Angeles International Airport uses direct quotations, the bid-ask quote will
be USD .009002-.009063 per one JPY. It is easy to generate indirect quotes from direct
quotes. And viceversa. As Example I.2 illustrates: S(direct)bid = 1/S(indirect)ask,
S(direct)ask = 1/S(indirect)bid. I.9 The discussion about exchange rate movements
sometimes is confusing because some comments refer to direct quotations while other
comments refer to indirect quotations. Direct quotations are the usual way prices are
quoted in an economy. For example, a gallon of milk is quoted in terms of units of the
domestic currency. Thus, unless stated otherwise, we will use direct quotations. That is,
the domestic currency will always be in the numerator while the foreign currency will
always be in the denominator. In the foreign exchange market, banks act as market
makers. They realize their profits from the bid-ask spread. Market makers will try to pass
the exposure from one transaction to another client. For example, a bank that buys JPY
from a client will try to cover its exposure by selling JPY to another client. Sometimes, a
bank that expects the JPY to appreciate over the next hours may decide to speculate, that
is, wait before selling JPY to another client. During the day, bank dealers manage their
exposure in a way that is consistent with their short-term view on each currency. Toward
the end of the day, bank dealers will try to square the banks' position. A dealer who
accumulates too large an inventory of JPY could induce clients to buy them by slightly
lowering the price. Thus, because quoted prices reflect inventory positions, it is advisable
to check with several banks before deciding to enter into a transaction. 2.B.1.ii Crossrates The direct/indirect quote system is related to the domestic currency. The
European/American quote system involves the USD. But if a Malayan trader calls a Hong
Kong bank and asks for the JPY/CHF quote, the Hong Kong bank will quote a rate that
does not fit under either quote system. The Hong Kong bank will quote a cross rate. Most
currencies are quoted against the USD, so that cross-rates are calculated from USD
quotations. For example, the JPY/GBP is calculated using the USD/JPY and USD/GBP
rates. This usually implies a larger bid-ask spread on cross exchange rates. The crossrates are calculated in such a way that arbitrageurs cannot take advantage of the quoted
prices. Otherwise, triangular arbitrage strategies would be possible and banks would soon
notice imbalances in their buy/sell orders. Example I.3: Suppose Housemann Bank gives
the following quotes: St = .0104-.0108 USD/JPY, and St= 1.5670-1.5675 USD/GBP.
Housemann Bank wants to calculate the JPY/GBP cross-rates. The JPY/GBP bid rate is
the price at which Housemann Bank is willing to buy GBP against JPY, i.e., the number
of JPY units it is willing to pay for one GBP. This transaction (buy GBP-sell JPY) is
equivalent to selling JPY to buy one USD -at Housemann's bid rate of (1/.0108)
JPY/USD- and then reselling that USD to buy GBP -at Housemann's bid rate of 1.5670
USD/GBP. Formally, the transaction is as follows: Sbid,JPY/GBP= Sbid,JPY/USD x
Sbid,USD/GBP= [(1/.0108) JPY/USD]x[(1.5670) USD/GBP] = 145.0926 JPY/GBP. That
is, Housemann Bank will never set the JPY/GBP bid rate below 145.0926 JPY/GBP.
Using a similar argument, Housemann Bank will set the ask JPY/GBP rate (sell GBP-buy
JPY) using the following formula: Sask,JPY/GBP = Sask,JPY/USDxSask,USD/GBP=
[(1/.0104) JPY/USD]x[(1.5675) USD/GBP] = 150.7211 JPY/GBP. I.10 Example I.4: A

Triangular Arbitrage Opportunity Consider, again, Example I.3. Suppose, now, that a
Housemann Bank trader observes the following exchange rate quote: Sask,JPY/GBP =
143.00 JPY/GBP. We can see that the JPY is overvalued in terms of GBP, since it is
below the arbitrage-free bid rate of 145.0926 JPY/GBP. The trader automatically starts a
triangular arbitrage strategy: (1) Sell USD 1,000,000 at the rate .0108 USD/JPY. Then,
the trader buys JPY 92,592,592.59. (2) Sell JPY 92,592,592.59 at the rate of 143.00
JPY/GBP. The trader buys GBP 647,500.65. (3) Sell GBP 647,500.65 at the rate 1.5670
USD/GBP. The trader buys USD 1,014,633.51. This operation makes a profit of USD
14,633.51. The Housemann trader will try to repeat this operation as many times as
possible. After several operations, the bank offering Sask,JPY/GBP = 143.00 JPY/GBP
will adjust the quote upwards.
2. The Forward Market Forward:
currency markets have a very old history. In the medieval European fairs, traders routinely
wrote forward currency contracts. A forward transaction is simple. It is similar to a spot
transaction, but the settlement date is deferred much further into the future. No cash moves
on either side until that settlement date. That is, the forward currency market involves
contracting today for the future purchase or sale of foreign currency. Forward currency
transactions are indicated on dealing room screens for intervals of one, two, three and twelve
month settlements. Most bankers today quote rates up to ten years forward for the most
traded currencies. Forward contracts are tailor-made to meet the needs of bank customers.
Therefore, if one customer wants a 63-day forward contract a bank will offer it. Nonstandard
contracts, however, can be more expensive. Forward quotes are given by "forward points."
The points corresponding to a 180-day forward GBP might be quoted as .0100-.0108. These
points can also be quoted as 8-100. The first number represents the points to be added to the
second number to form the ask small figure, while the second number represents the small
figure to be added to the bid's big figure. These points are added from the spot bid-ask spread
to obtain the forward price if the first number in the forward point "pair" is smaller than the
second number. The forward points are subtracted from the spot bid-ask spread to obtain the
forward price, if the first number is higher than the second number. The combination of the
forward points and the spot bid-ask rate is called the "outright price." Example I.5: Suppose
St=1.5670-1.5677 USD/GBP. We want to calculate the outright price. (A) Addition The 180days forward points are .0100-.0108 (8-100), then Ft,180 = 1.5770-1.5785 USD/GBP. (B)
Subtraction The 180-days forward points are .0072-.0068 (68-4), then Ft,180 = 1.56021.5605 USD/GBP. Forward contracts allow firms and investors to transfer the risk inherent
in every international transaction. Suppose a U.S. investor holds British bonds worth GBP
1,000,000. This investor believes the GBP will depreciate against the USD, in the next 90
days. This U.S. investor can buy a 90-day GBP forward contract to transfer the currency risk
of her British bond position. I.11 A forward transaction can be classified into two classes:
outright and swap. An outright forward transaction is an uncovered speculative position in a
currency, even though it might be part of a currency hedge to the other side of the
transaction. A foreign exchange swap transaction helps to reduce the exposure in a forward
trade. A swap transaction is the simultaneous sale (or purchase) of spot foreign exchange
against a forward purchase (or sale) of approximately an equal amount of the foreign
currency. In 2013, the daily volume of outright forward contracts amounted to USD 680
billion, or 13% of the total volume of the foreign exchange market. Unlike the spot market,

35% of transactions involved a non-financial customer. These non-financial customers

typically use forward contracts to manage currency risk. Forward contracts tend to have very
short maturities: 40% of the contracts had a maturity of up to 7 days. Less than 5% of the
forward contracts had a maturity of over one year. 2.B.2.i Forward Premium and Forward
Discount A foreign currency is said to be a premium currency if its interest rate is lower than
the domestic currency. On the other hand, a foreign currency is said to be a discount currency
if its interest rate is higher than the domestic currency. Forwards will exceed the spot for a
premium currency and will be less than the spot for a discount currency. For example, on
November 9, 1994 (see Example I.6 below), the (forward) British pound was a discount
currency. That is, the British pound is cheaper in the forward market. It is common to express
the premium and discount of a forward rate as an annualized percentage deviation from the
spot rate. When annualized, the forward premium is compared to the interest rate differential
between two currencies. The forward premium, p, is calculated as follows: p = [(Ft,T - St)/St]
x (360/T). Note that p could be a premium (if p > 0), or a discount (if p < 0). Example I.6:
Using the information from Example I.7 below, we obtain the 180-day USD/GBP forward
rate and the spot rate. The 180-day forward rate is 1.6167 USD/GBP, while the spot rate is
1.62 USD/GBP. The forward premium is: p = [(1.6167 - 1.62)/1.62] x (360/180) = -.0041.
The 180-day forward premium is -.41%. That is, the GBP is trading at a .41% discount for
delivery in 180 days. 2.B.3 The Foreign Exchange Swap Market As mentioned above, in a
foreign exchange swap transaction, a trader can simultaneously sell currency for spot
delivery and buy that currency for forward delivery. A foreign exchange swap I.12 involves
two transactions. For example, a sale of GBP is a purchase of USD and a purchase of GBP is
a sale of USD. A foreign exchange swap can be described as a simultaneous borrowing of
one currency and lending of another currency. Swaps are typically used to reduce exposure to
the short-term risk of currency rate changes. For example, a U.S. trader wants to invest in 7day GBP certificates of deposit (CDs). Then, the U.S. trader buys GBP spot, uses the funds to
purchase the short-term GBP CDs, and sells GBP forward. The sale of GBP forward protects
the U.S. trader from an appreciation of the USD against the GBP, during the life of the GBP
CD. Traders also use foreign exchange swaps to change the maturity structure of their overall
currency position. The foreign exchange swap market is the segment of the foreign exchange
rate market with the highest daily volume. In 2013, the BIS reported that currency swap
transactions accounted for USD 2.23 billion out of the USD 5.3 trillion daily foreign
exchange market turnover (42%). Foreign exchange swaps are usually very short-term
contracts. The majority of them (70%) have a maturity of less than one week.

Factors affecting Forex Rates

There are various factors with affect the forex market and its exchange rate. Right from the
government intervention to demand and supply to investors appetite, attitude and analysis all
these factors plays an important role in
deciding forex market operation and particularly on exchange rate determination.
Price determination:
The law of supply and demand essentially governs the Forex market like any other market. The
law of supply states, as prices rises for a given commodity or currency, the quantity of the item
that is supplied will increase; conversely, as the price falls, the quantity provided will fall. The
law of demand states that as the price for an item rises, the quantity demanded will fall. As the
price for an item falls, the quantity demanded will rise.
In the case of currency, it is the demand and supply of both domestic and foreign currency that is
considered for price determination. It is the interaction of these basic forces that results in the
movement of currency prices in the Forex market.
Broadly we can divide these factors in two categories:
[A] FUNDAMENTAL FACTORS
[B] TECHNICAL FACTORS

A. Fundamental Factor:
Fundamental factor shows future price movements of a financial instrument based on economic,
political, environmental and other relevant factors, as well as data that will affect the basic
supply and demand of forex market. Some of the major fundamental factors are:
Factors responsible for exchange rate determination:
Balance of payment: If the exports to other countries are more than import then the exchange
rate will be stronger as there will be inflow of foreign currency. More relies on imports, weaker
will be the exchange rate because there will be outflow of domestic currency. A favorable
balance of payment on current account indicates greater demand of goods & services of that
country abroad. As due to export the supply of foreign currency is greater than the demand of
foreign currency at home, so the home currency is likely to appreciate with respect to foreign
currency.
Exchange rate policy and regime: Fixing an exchange rate is policy matter but in India it is
largely dismantled as market force determines the exchange rates with certain exchange control
regulations (in capital account).
Monetary policy & fiscal policy: If a government runs into deficit, it has to
Borrow money (by selling bonds). If it can't borrow from its own citizens, it must borrow from
foreign investors. That means selling more of its currency, increasing the supply and thus driving
the prices down.
Domestic Financial Market: Strong domestic financial markets will also lead to the
strengthening of domestic currency, as investors will be less worried about their investments and
foreign investor will also be attracted.
Central bank intervention in Forex market: By open market operation or by increasing /
decreasing key rates or by purchasing and selling the forex, central bank directly or indirectly
affects the forex market operation.
Capital account liberalization: Till now convertibility of capital account is not fully permitted
by government. Convertibility of capital account means freedom to convert local financial assets
to foreign financial assets and vice versa.
We can foresee the situation that if market becomes fully open on capital account issue then lots
of inflow and outflow will take place on account of capital assets, which may have great impact
of exchange rate determination.
Interest rate differentials: If there are higher interest rates in home country then it will attract
investments from abroad in the form of FII, FDI and increased borrowings. This will lead to
increased supply of foreign currency. On the other hand, if the interest rates are higher in the
other country, investments will flow out leading to decreased supply of foreign currency.

Inflation differentials: If inflation rates are high in one country then the other then the country
which is having low inflation rate will be in position to maintain the price level of commodity in
such a manner that will lead to improve the demand of its goods and hence its currency. So, due
to higher inflation rate countrys currency depreciates (as it purchasing power decreases) till the
differential of the other base currency.
Stock Market: Stock market has direct relationship with forex market. In the surging market the
foreign investor wants to invest in the stock and get the benefit. In this case they bring more
foreign currency (Dollar) in Indian market and sell for investing in equity. So, the price of dollar
comes down and ultimately rupee appreciates.
Prices of non-tradable goods relative to tradable goods : Price of non-tradable good are
having indirect impact in exchange rate determination as many of the tradable good are directly
dependent on such non-tradable good and prices of that tradable good are having direct impact
on the forex. As the price of the non-tradable goods goes up the inflation increase which have
adverse impact on exchange rate and it continues to depreciates.
Productivity differentials: Demand of goods produced in a country explains the demand of the
particular currency. So, economic data such as labor reports (payrolls, unemployment rate and
average hourly earnings), Consumer Price Indices (CPI),Gross Domestic Product (GDP),
International Trade, Productivity, Industrial Production, Consumer Confidence etc, also affect
fluctuations in currency exchange rates.
Business Environment: Positive indications (in terms of government policy, competitive
advantages, market size, etc.) increase the demand for currency, as more and more enterprises
want to invest there. Any positive indications abroad will lead to strengthening of foreign
currency.
GDP growth and phases of business cycle: If the domestic economy is strong then there will be
lots of investments from abroad which will lead to increased supply of foreign currency,
ultimately leading to strengthening of domestic currency. And if there were weaker domestic
economy it would lead to outflow of funds from a country. Also the phase of business cycle plays
an important role as different phase of business have different feature. For maximum in flow of
foreign fund the countrys business cycle should be in growth phase, which ultimately results in
appreciating the home currency.
Global economic situation and financial crisis: Global scenario of the world acts an indicator
of the forex market. If there is no financial crisis and economy is doing well then forex market is
also suppose to do well as its revealed from the forex triennial survey done by Bank of
International settlement. In situation of crisis the interest rates may go down which results in
devaluation of that particular currency. As we have seen during
2007-2008 financial crisis that due to economic slowdown, subprime loan default and lowering
interest rate USD keep dwindling (depreciating) against all the major currencies the market
became so volatile that no market maker was ready to give competitive quotes.
USD was all time low for the EURO and GBP. Indian forex market was under pressure because
of the reversal of the capital flow as part of global de-leveraging process. Also corporate were

converting the Rupee liability into Foreign currency liability to meet external obligations, which
ultimately put pressure on the rupee.
Political factors: All exchange rates are susceptible to political instability and anticipations
about the new government. All the market players get worried about the policies and may start
unwinding their positions thereby affecting the demand and supply.
Sovereign risk rating: Sovereign is the country health indicator on various parameter. It tells the
risk involved in a particular country based on the parameter like political and financial indicator.
If a country has got high rating that means the country is politically sound and is able to meets its
foreign obligation with any difficulty. Higher the rating of county more likely to appreciate the
host country currency.
Rumors: Any rumor in the markets also leads to fluctuation in the values. Any
Favorable news will lead to strengthening of domestic currency and any negative rumor will lead
to weakening of the currency.

B. Technical Factors:
Technical factors predicts price movements and future market trends by studying what has
occurred in the past using various charts. Technical factor is built on three essential principles:
1. Market (price) action discounts everything: This means that the actual price is a reflection
of everything that is known to the market that could affect it.
2. Prices move in trends: used to identify patterns of market behavior,
3. History repeats itself: Forex chart patterns have been recognized and categorized for over
100 years, and the manner in which many patterns are repeated leads to the conclusion that
human psychology changes little over time. Since patterns have worked well in the past, it is
assumed that they will continue to work well into the future.

FOREIGN EXCHANGE MARKET IN INDIA, INDIAN ECONOMY:

Foreign Exchange Market in India is controlled by the Foreign Exchange Management Act, 1999
and is rapidly improving. Foreign Exchange Market in India works under the central government
in India and executes wide powers to control transactions in Foreign Exchange.
The Foreign Exchange Management Act, 1999 or FEMA regulates the whole Foreign Exchange
Market in India. Before this act was introduced, the Foreign Exchange was regulated by the
reserve bank of India through the Exchange Control Department, by the FERA or Foreign
Exchange Regulation Act, 1947. After independence, FERA was introduced as a temporary
measure to regulate the inflow of the foreign capital. But with the economic and industrial
development, the need for conservation of foreign currency was urgently felt and on the
recommendation of the Public Accounts Committee, the Indian government passed the Foreign
Exchange Regulation Act, 1973 and gradually, this act became famous as FEMA.
Foreign Exchange Market in India, Indian Economy Until 1992 all foreign investments in India

and the repatriation of foreign capital required previous approval of the government. The Foreign
Exchange Regulation Act rarely allowed foreign majority holdings for foreign in India. However,
a new foreign investment policy announced in July 1991, declared automatic approval for
foreign exchange in India for thirty-four industries. These industries were designated with high
priority, up to an equivalent limit of 51 percent. The Foreign Exchange Market in India is
regulated by the reserve bank of India through the exchange Control Department.
Initially the government required that a companys routine approval must rely on identical
exports and dividend repatriation, but in May 1992 this requirement of Foreign Exchange in
India was lifted, with an exception to low-priority sectors. In 1994 a foreign d nonresident Indian
investors were permitted to repatriate not only their profits but also their capital for Foreign
Exchange in India. Indian exporters are enjoying the freedom to use their export earnings as they
find it suitable. However, transfer of capital abroad by Indian nationals is only allowed in
particular circumstances, such as emigration. Foreign Exchange in India is automatically made
accessible for imports for which import licenses are widely issued.
The Foreign Exchange Market in India is growing very rapidly, since the annual turnover of the
Market is more than $400 billion. This foreign exchange transaction in India does not include the
inter-bank transactions. According to the record of Foreign Exchange in India, RBI released
these transactions. The average monthly turnover in the merchant segment was $40.5 billion in
2003-04 and the inter-bank transaction was $134.2 for the same period. The average total
monthly turnover in the sector of Foreign Exchange in India was about $174.7 billion for the
same period. The transactions are made on spot and also on forward basis, which include
currency swaps and interest rate swaps.
The Indian Foreign Exchange Market is made up of the buyers, sellers, Market mediators and the
monetary authority of India. The main center of Foreign Exchange in India is Mumbai, the
commercial capital of the country. There are several other centers for Foreign Exchange
transactions in India including the major cities of Kolkata, New Delhi, Chennai, Bangalore,
Pondicherry and Cochin. With the development of technologies, all the Foreign Exchange
markets of India work collectively and in much easier process.

Foreign exchange Dealers Association is a voluntary association that also provides some help in
regulating the Market. The Authorized Dealers and the attributed brokers are qualified to
participate in the foreign exchange markets of India. When the foreign exchange trade is going
on between Authorized Dealers and RBI or between the Authorized Dealers and the overseas
banks, the brokers usually do not have any role to play. Besides the Authorized Dealers and
brokers, there are some others who are provided with the limited rights to accept the foreign
currency or travelers` cheques; they are the authorized moneychangers, travel agents, certain
hotels and government shops. The IDBI and Exim bank are also permitted at specific times to
hold foreign currency.
Participants in foreign exchange Market the main players in foreign exchange Market are as
follows:
1.CUSTOMERS:
The customers who are engaged in foreign trade participate in v foreign exchange Market by
availing of the services of banks. Exporters require converting the dollars in to rupee and
importers require converting rupee in to the dollars, as they have to pay in dollars for the
goods/services they have imported.
2. COMMERCIAL BANK:
They are most active players in the forex Market. Commercial bank dealing with international
transaction offer services for conversion of one currency in to another. They have wide network
of branches. Typically banks buy foreign exchange from exporters and sells foreign exchange to
the importers of goods. As every time the foreign exchange bought or oversold position. The
balance amount is sold or bought from the Market.
Top 10 currency traders of overall volume, May 2011 Rank Name Market Share

Germany Deutsche Bank

Switzerland UBS AG
United Kingdom Barclays Capital
United States Citi
United Kingdom Royal Bank of Scotland
United States JPMorgan
United Kingdom HSBC
Switzerland Credit Suisse
United States Goldman Sachs
United States Morgan Stanley

18.06%
11.30%
11.08%
7.69%
6.50%
6.35%
4.55%
4.44%
4.28%
2.91%

3.CENTRAL BANK:
In all countries Central bank have been charged with the responsibility of maintaining the
external value of the domestic currency. Generally this is achieved by the intervention of
the bank.
4. EXCHANGE BROKERS:
Forex brokers play very important role in the foreign exchange Market. However the extent to
which services of foreign brokers are utilized depends on the tradition and practice prevailing at
a particular forex Market center. In India as per FEDAI guideline the Ads are free to deal directly
among themselves without going through brokers. The brokers are not among to allowed to deal
in their own account allover the world and also in India.

5.OVERSEAS FOREX MARKET:

Today the daily global turnover is estimated to be more than US $ 1.5 trillion a day. The
international trade however constitutes hardly 5 to 7 % of this total turnover. The rest of trading
in world forex Market is constituted of financial transaction and speculation.
6.TIMINGS:
As we know that the forex Market is 24-hour Market, the day begins with Tokyo and thereafter
Singapore opens, thereafter India, followed by Bahrain, Frankfurt, Paris, London, New York,
Sydney, and back to Tokyo.
7.SPECULATORS:
The speculators are the major players in the forex Market Bank dealing are the major speculators
in the forex. Market with a view to make profit on account of favorable movement in
exchange rate, take position i.e. if they feel that rate of particular currency is likely to go up in
short term. They buy that currency and sell it as Corporations particularlysoon as they are able
to make quick profit. Multinational Corporation and transnational corporation having business
operation beyond their national frontiers and on account of their cash flows being large and in
multi currencies get in to foreign exchange exposures.
With a view to make advantage of exchange rate movement in their favor they either delay
covering exposures or do Individual like share dealingnot cover until cash flow materialize.
Also undertake the activity of buying and selling of foreign exchange for booking short term
profits. They also buy currency foreign stocks, bonds and other assets without covering the
foreign exchange exposure risk. These also result in speculations.
Retail foreign exchange brokers:
Retail traders (individuals) constitute a growing segment of this Market, both in size and
importance. Currently, they participate indirectly through broker or banks. Retail brokers, while

largely controlled and regulated in the USA by the CFTC and NFA have in the past been
subjected to periodic foreign exchange scams. To deal with the issue, the NFA and CFTC began
(as of 2009) imposing stricter requirements, particularly in relation to the amount of Net
Capitalization required of its members. As a result many of the smaller, and perhaps questionable
brokers are now gone.
There are two main types of retail FX brokers offering the opportunity for speculative currency
trading: brokers and dealers or Market makers. Brokers serve as an agent of the customer in the
broader FX Market, by seeking the best price in the Market for a retail order and dealing on
behalf of the retail customer. They charge a commission or mark-up in addition to the price
obtained in the Market Dealers or Market makers, by contrast, typically act as principal in the
transaction versus the retail customer, and quote a price they are willing to deal atthe customer
has the choice whether or not to trade at that price.
Investment management firms:
Investment management firms (who typically manage large accounts on behalf of customers
such as pension funds and endowments) use the foreign exchange Market to facilitate
transactions in foreign securities. For example, an investment manager bearing an international
equity portfolio needs to purchase and sell several pairs of foreign currencies to pay for foreign
securities purchases.
Some investment management firms also have more speculative specialist currency overlay
operations, which manage clients' currency exposures with the aim of generating profits as well
as limiting risk. Whilst the number of this type of specialist firms is quite small, many have a
large value of assets under management (AUM), and hence can generate large trades.
Market psychology
Market psychology and trader perceptions influence the foreign exchange Market in a variety of
ways:

Flights to quality: Unsettling international events can lead to a "flight to quality," with
investors seeking a "safe haven" There will be a greater demand, thus a higher price, for

currencies perceived as stronger over their relatively weaker counterparts. The U.S.
dollar, Swiss franc and gold have been traditional safe havens during times of political or
economic uncertainty.

Long-term trends: Currency markets often move in visible long-term trends. Although
currencies do not have an annual growing season like physical commodities, business
cycles do make themselves felt. Cycle analysis looks at longer-term price trends that may
rise from economic or political trends.

"Buy the rumor, sell the fact": This Market truism can apply to many currency situations.
It is the tendency for the price of a currency to reflect the impact of a particular action
before it occurs and, when the anticipated event comes to pass, react in exactly the
opposite direction. This may also be referred to as a Market being "oversold" or
"overbought. To buy the rumor or sell the fact can also be an example of the cognitive
bias known as anchoring, when investors focus too much on the relevance of outside
events to currency prices.

Economic numbers: While economic numbers can certainly reflect economic policy,
some reports and numbers take on a talisman-like effect: the number itself becomes
important to Market psychology and may have an immediate impact on short-term
Market moves. "What to watch" can change over time. In recent years, for example,
money supply, employment, trade balance figures and inflation numbers have all taken
turns in the spotlight.

Technical trading considerations: As in other markets, the accumulated price movements in a

currency pair such as EUR/USD can form apparent patterns that traders may attempt to use.
Many traders study price charts in order to identify such patterns.

EVOLUTION OF RESERVE MANAGEMENT POLICY IN INDIA:

Indias approach to reserve management, until the balance of payments crisis of 1991 was
essentially based on the traditional approach, i.e., to maintain an appropriate level of import
cover defined in terms of number of months of imports equivalent to reserves. For example, the
Reserve Banks Annual Report 1990-91 stated that the import cover of reserves shrank to 3
weeks of imports by the end of December 1990, and the emphasis on import cover constituted
the primary concern say, till 1993-94. The approach to reserve management, as part of exchange
rate management, and indeed external sector policy underwent a paradigm shift with the
adoption of the recommendations of the High Level Committee on Balance of Payments
(Chairman: Dr. C. Rangarajan). The Report, of which I had the privilege of being MemberSecretary, articulated an integrated view of the issues and made specific recommendations on
foreign currency reserves. The relevant extracts are:

It has traditionally been the practice to view the level of desirable reserves as a percentage of
the annual imports - say reserves to meet three months imports or four months imports. However,
this approach would be inadequate when a large number of transactions and payment liabilities
arise in areas other than import of commodities. Thus, liabilities may arise either for discharging
short-term debt obligations or servicing of medium-term debt, both interest and principal. The
Committee recommends that while determining the target level of reserve, due attention should
be paid to the payment obligations in addition to the level of imports. The Committee,
recommends that the foreign exchange reserves targets be fixed in such a way that they are
generally in a position to accommodate imports of three months.

In the view of the Committee, the factors that are to be taken into consideration in determining
the desirable level of reserves are: the need to ensure a reasonable level of confidence in the
international financial and trading communities about the capacity of the country to honor its
obligations and maintain trade and financial flows; the need to take care of the seasonal factors in
any balance of payments transaction with reference to the possible uncertainties in the monsoon
conditions of India; the amount of foreign currency reserves required to counter speculative

tendencies or anticipatory actions amongst players in the foreign exchange Market; and the
capacity to maintain the reserves so that the cost of carrying liquidity is minimal.

With the introduction of Market determined exchange rate as mentioned in the Reserve Banks
Annual Report, 1995-96 a change in the approach to reserve management was warranted and the
emphasis on import cover had to be supplemented with the objective of smoothening out the
volatility in the exchange rate, which has been reflective of the underlying Market condition.

As a part of prudent management of external liabilities, the Reserve Banks policy is to keep
forward liabilities at a relatively low level as a proportion of gross reserves and the emphasis on
prudent reserve management i.e., keeping forward liabilities within manageable limits, was
highlighted in the Reserve Banks Annual Report, 1998-99.

The Reserve Banks Annual Report, 1999-2000 stated that the overall approach to management
of Indias foreign exchange reserves reflects the changing composition of balance of payments
and liquidity risks associated with different types of flows and other requirements and the
introduction of the concept of liquidity risks is noteworthy.

The policy for reserve management is built upon a host of identifiable factors and other
contingencies, including, inter alias, the size of the current account deficit and short term
liabilities (including current repayment obligations on long term loans), the possible variability
in portfolio investment, and other types of capital flows, the unanticipated pressures on the
balance of payments arising out of external shocks and movements in repatriable foreign
currency deposits of nonresident Indians.

Governor Jalans latest statement on Monetary and Credit Policy provides, an up-to-date and
comprehensive view on the approach to reserve management and of special significance is the
statement: a sufficiently high level of reserves is necessary to ensure that even if there is
prolonged uncertainty, reserves can cover the liquidity at risk on all accounts over a fairly long
period. Taking these considerations into account, Indias foreign exchange reserves are now very
comfortable. The prevalent national security environment further underscores the need for
strong reserves. We must continue to ensure that, leaving aside short-term variations in reserves
level, the quantum of reserves in the long-run is in line with the growth of the economy, the size
of risk-adjusted capital flows and national security requirements. This will provide us with
greater security against unfavorable or unanticipated developments, which can occur quite
suddenly.

The above discussion points to evolving considerations and indeed a paradigm shift in Indias
approach to reserve management. The shift has occurred from a single indicator to a menu or
multiple indicators approach. Furthermore, the policy of reserve management is built upon a host
of factors, some of them are not quantifiable, and in any case, weights attached to each of them
do change from time to time.

What is the Appropriate Level of Forex Reserves?

Basic motives for holding reserves do result in alternative frameworks for determining
appropriate level of foreign reserves. Efforts have been made by economists to present an
optimizing framework for maintaining appropriate level of foreign reserves and one viewpoint
suggests that optimal reserves pertain to the level at which marginal social cost equals marginal
social benefit. Optimal level of reserves has also been indicated as the level where marginal
productivity of reserves plus interest earned on reserve assets equals the marginal productivity of
real resources and this framework encompasses exchange rate stability as the predominant

objective of reserve management. Since the underlying costs and benefits of reserves can be
measured in several ways, these approaches to optimal level provide ample scope for developing
a host of indicators of appropriate level of reserves.

It is possible to identify four sets of indicators to assess adequacy of reserves, and each of them
do provide an insight into adequacy though none of them may by itself fully explain adequacy.
First, the money based indicators including reserve to broad money or reserves to base money
which provide a measure of potential for resident based capital flight from currency. An unstable
demand for money or the presence of a weak banking system may indicate greater probability of
such capital flights. Money based indicators, however, suffer from several drawbacks. In
countries, where money demands is stable and confidence in domestic currency high, domestic
money demand tends to be larger and reserves over money ratios, relatively small. Therefore,
while a sizable money stock in relation to reserves, prima facie, suggests a large potential for
capital flight out of money, it is not necessarily a good predictor of actual capital flight. Money
based indicators also do not capture comprehensively the potential for domestic capital flight.
Moreover, empirical studies find a weak relationship between money based indicator and
occurrence and depth of international crises.

Secondly, trade based indicators; usually the import-based indicators defined in terms of reserves
in months of imports provide a simple way of scaling the level of reserves by the size and
openness of the economy. It has a straightforward interpretation- a number of months a country
can continue to support its current level of imports if all other inflows and outflows cease. As the
measure focuses on current account, it is relevant for small economies, which have limited
access and vulnerabilities to capital markets. For substantially open economies with a sizable
capital account, the import cover measure may not be appropriate.

Thirdly, debt based indicators are of recent origin; they appeared with episodes of international
crises, as several studies confirmed that reserves to short term debt by remaining maturity is a
better indicator of identifying financial crises. Debt-based indicators are useful for gauging risks
associated with adverse developments in international capital markets. Since short-term debt by
remaining maturity provides a measure of all debt repayments to nonresidents over the coming
year, it constitutes a useful measure of how quickly a country would be forced to adjust in the
face of capital Market distortion. Studies have shown that it could be the single most important
indicator of reserve adequacy in countries with significant but uncertain access to capital
markets.

Fourthly, more recent approaches to reserve adequacy have suggested a combination of currentcapital accounts as the meaningful measure of liquidity risks. Of particular interest, which has
received wide appreciation from many central bankers including Alan Greenspan, postulates that
the ratio of short term debt augmented with a projected current account deficit (or another
measure of expected borrowing) could serve useful an indicator of how long a country can
sustain external imbalance without resorting to foreign borrowing. As a matter of practice, the
Guidotti Rule suggests that the countries should hold external assets sufficient to ensure that they
could live without access to new foreign borrowings for up to twelve months. This implies that
the usable foreign exchange reserves should exceed scheduled amortization of foreign currency
debts (assuming no rollover during the following year).

MANAGEMENT OF FOREX RESERVE IN INDIA:

In India, legal provisions governing management of forex reserves are set out in the RBI Act and
foreign exchange Management Act, 1999 and they also govern the open Market operations for
ensuring orderly conditions in the forex markets, the exercise of powers as a monetary authority
and the custodian in regard to management of foreign exchange assets.

In practice, holdings of gold have been virtually unchanged other than occasional sales of gold
by the Government to the Reserve Bank. The gold reserves are managed passively. Currently,
accretion to foreign currency reserves arises mainly out of purchases by the Reserve Bank from
the Authorized Dealers (i.e. open Market operations), and to some extent income from
deployment of forex assets held in the portfolio of the Reserve Bank (i.e. reserves, which are
invested in appropriate instruments of select 0currencies). The RBI Act stipulates the investment
categories in which the Reserve Bank is permitted to deploy its reserves. The aid receipts on
Government account also flow into reserves. The outflow arises mainly on account of sale of
foreign currency to Authorized Dealers (i.e. for open Market operations). There are occasions
when forex is made available from reserves for identified users, as part of strategy of meeting
lumpy demands on forex markets, particularly during periods of uncertainty. The net effect of
purchases and sale of foreign currency is the most determining one for the level of forex
reserves, and these include such sale or purchase in forward markets (which incidentally is very
small in magnitude).

The essence of portfolio management of reserves by the Reserve Bank is to ensure safety,
liquidity and optimization of returns. The reserve management strategies are continuously
reviewed by the Reserve Bank in consultation with Government. In deploying reserves, attention
is paid to the currency composition, duration and instruments. All of the foreign currency assets
are invested in assets of top quality while a good proportion should be convertible into cash at
short notice. The counterparties with whom deals are conducted are also subject to a rigorous
selection process. In assessing the returns from deployment, the total return (both interest and

capital gains) is taken into consideration. Circumstances such as lumpy demand and supply in
reserve accretion are countered through appropriate immunization strategies in deployment. One
crucial area in the process of investment of the foreign currency assets in the overseas markets,
relates to the risk involved in the process viz. credit risk, Market risk and operational risk. While
there is no set formula to meet all situations, the Reserve Bank utilizes the accepted portfolio
management principles for risk management.

FOREX V/S OTHER MARKETS

Relationship between Forex Market and other markets:
Forex versus Other Financial Markets
The Forex (or currency) market is one of four financial markets. These markets include the stock,
bond, commodity, and currency markets. Each market has its own special characteristics that
attract banks and financial institutions to trade its products. Individuals have only recently been
permitted to trade in the currency markets. Previously, the Forex market was traded primarily by
banks, large financial institutions, and governments. ndividuals have been trading in the other
financial markets for many years.
Lets take a look at a few basic characteristics of the other markets and their major differences
with the Forex market.
The Stock Market

The stock market is a system that permits the buying and selling (or trading) of a companys
shares and derivatives. There are stock markets around the world. The worldwide stock market is
valued at $51 trillion.
Key differences from the Forex Market
The stock market has lower liquidity.
The stock market has lower leverage and risk (2:1 vs 100:1 in Forex).
The stock market has more regulation, control, and remedies.

The Bond Market

The bond market is a loosely connected system in which buyers and sellers trade fixed income
assets and securities. Bond and other fixed income assets are traded informally in the over-thecounter market. The worldwide bond market is valued at $45 trillion.
Key differences from Forex Market
The bond market has the worlds largest investment sector.
The bond market has lower volatility and risk.
The bond market has limited trading hours.
The bond market is a decentralized market without a common exchange.
The Commodities Market
The commodities market is an exchange where raw goods or products are traded. Like the stock
market, there are commodities markets around the world. Commodities from apples to zinc are
sold in commodities exchanges.
Key differences from Commodities Market
The commodities market has lower leverage (10:1 vs. 100:1 in Forex).
The commodities market has lower liquidity.
The commodities market tends to have longer trends.
The commodities market has limited trading hours.
The commodities market has more errors and slippage (misquoted prices).
These four markets are operating simultaneously. Each has its own advantages and challenges.
Many Forex traders will study how these markets work together, which is called Intermarket
Analysis.

Other markets Forex markets Available trading hours are dictated by the trading schedule of the
exchange floor and the local time-zone. This limits market open times. The forex market is open
24 hours a day,5.5 days a week. Because of the decentralized clearing of trades and overlap of
major financial markets throughout the world, the forex market remains open, thus creating
trading volume throughout the day and overnight. Liquidity can be greatly diminished after
market hours, or when many market participants limit their trading or move to markets that are
more popular.
Forex is the most liquid market in the world, eclipsing all others in comparison.
Because currency is the basis of all world commerce, exchange activities are constant. Liquidity
particularly in the majors often does not dry up during "slow times." Traders are charged
multiple fees, such as commissions, clearing fees, exchange fees and government fees as well as
platform and charting fees.
All you pay is the spread, which is built into the buy and sell prices although
market makers like GFT are compensated by revenues from their activities as a
currency dealer. Trading restricted by large minimum capital requirements sometimes as One
consistent margin rate 24 hours a day allows forex traders to leverage their high as $50,000
and high margin rates. Capital, as much as 100:1. In fact, GFT green accounts allow traders to
begin with as little as $200 and 100:1 leverage. It is important to know that without appropriate
use of risk management, a high degree of leverage can lead to large losses as well as gains.
Margin requirements can be as much as 50 percent of your capital in order to take a position. No
restrictions on short-selling (placing a sell order when you think the market will trend down),
because you are simultaneously buying one currency while NM selling another. Restrictions on
short selling and stop orders. GFT offers multiple order types, including stop orders and trailing
stop orders to help you manage your trading equity, which you can use even when short selling.

THE IMPORTANCE OF FOREX IN INTERNATIONAL TRADE

Trade has since ages, man has used this means of communication to improve their living and
development of all humanity through out the world. Forex or foreign currency, the main role is to
support investment and international trade, helping entrepreneurs to change one currency to
another.
Financial centres all over the world play an important role as trade with anchors, so that different
types of sell and buy transaction should take place. In forex helps to determine the value of the
currency of a nation. It also provides support in trade, which means that investors borrow
currencies with a low value and invest in high value currencies.

Particular forex transaction involves any party who purchases a considerable amount of one
currency and pay as usual via a different currency.
Forex market is unique because it has a large trade in volume, to different parts of the world.
It is one of the major causes of increased currency value of a country and it boosts the economy
of a country.
Forex market is experiencing an increase since the introduction of a number of reasons that
growing the value of foreign currency which turns it into an asset, trading activity among
retailers has increased enormously and private investors have begun to play an important role in
the financial market.
With the new technology and its implementation on the market, has lowered transaction costs
that have led to an increase in liquidity in the market. Online trading has made it easier for
retailers to carry out their transactions in other currencies on the Forex market.
Forex is the largest and liquid based financial markets throughout the world. Commercial
transactions involving corporate houses, large bank, institutional investors, Governments, nonprofessional investors and other financial institutions. There are no fixed prices in forex trade as
it could be exploited by companies or financial institutions.
The main reason that determine exchange rates, demand and availability of a particular currency.
The whole world can be seen if observed closely to the constantly changing mixture of events
around the world to keep moving and to a change of price in one currency to another.
The most important factors that play an important role in this change are economic factors,
market psychology and political conditions for a nation.

REVIEW OF ARTICLES ON FOREIGN EXCHANGE MARKET:

Indian Forex - Where does India stand in Global Forex Market?
India Saturday 10 April 2010 - The daily turnover of the Global Forex market is presently
estimated at US$ 3 trillion. Presently the Indian Forex market is the 16th largest Forex market in
the world in terms of daily turnover as the BIS Triennial Survey report. As per this report the
daily turnover of the Indian Forex market is US$ 34 billion in the year 2007. Besides the OTC
derivative segment of the Indian Forex market has also increased significantly since its

commencement in the year 2007. During the year 2007-08 the daily turnover of the derivative
segment in the Indian Forex market stands at US$ 48 billion.
The growth of the Indian Forex market owes to the tremendous growth of the Indian economy in
the last few years. Today India holds a significant position in the Global economic scenario and it
is considered to be one of the emerging economies in the World. The steady growth of the Indian
economy and diversification of the industrial sectors in India has contributed significantly to the
rapid growth of the Indian Forex market. Let us take a watch on the Indian Forex trading
scenario since the early days.
The Forex trading history of India dates back to 1978, when Reserve Bank of India took a step
towards allowing the banks to undertake intra-day trading in Foreign exchange. It is during the
period of 1975-1992 when Reserve Bank of India, officially determined the exchange rate of
rupee according to the weighed basket of currencies with the significant business partners of
India. But it needs to be mentioned that there are too many restrictions on these banks during this
period for trading in the Forex market.
The introduction of the open market policy in the year 1991 and implementation of the new
economic policy by the Govt. of India brought a comprehensive change in the Forex market of
India. It is during the month of July 1991, that the rupee undergone a two fold downward
adjustment and this was in line with inflation differential to ensure competitiveness in exports.
Then as per the recommendation of a high level committee set up to review the Balance of
Payment position, the Liberalized Exchange Rate Management System or the LERMS was
introduced in 1992. The method of dual exchange rate mechanism that was part of the LERMS
also came into effect 1993. It is during this time that uniform exchange rate came into effect and
that started demand and supply controlled exchange rate regime in Indian. This ultimately
progressed towards the current account convertibility that was a part of the Articles of Agreement
with the International Monetary Fund.
It was the report and recommendations of the Expert Group on Foreign Exchange, formed to
judge the Forex market in India that actually helped to widen the Forex trading practices in the
country. As per the recommendations of the expert committee, Reserve bank of India and the

Government took so many significant steps that ultimately gave freedom to the banks in many
ways. Apart from the banks corporate bodies were also given certain relaxation that also played
an instrumental role in spread of Forex trading in India.
It is during the year 2008 that Indian Forex market has seen a great advancement that took the
Indian Forex trading at par with the global Forex markets. It is the introduction of future
derivative segment in Forex trading through the largest stock exchange in country National
Stock Exchange or NSE. This step not only increased the Indian Forex market volume too many
folds also gave the individual and retail investor a chance to trade at the Forex market, that was
till this time remained a forte of the banks and large corporate.
Indian Forex market got yet another boost recently when the SEBI and Reserve Bank of India
permitted the trade of derivative contract at the leading stock exchanges NSE and MCX for three
new currency pairs. In its recent circulars Reserve Bank of India accepting the proposal of SEBI,
permitted the trade of INRGBP (Indian Rupee and Great Britain Pound), INREUR (Indian Rupee
and Euro) and INRYEN (Indian Rupee and Japanese Yen). This was in addition with the existing
pair of currencies that is US$ and INR. From inclusion of these three currency pairs in the Indian
Forex circuit the Indian Forex scene is expected to boost even further as these are some of the
most widely traded currency pairs in the world.

The Future of the Foreign Exchange Markets

It provides a comprehensive study of the key issues affecting the market including the dramatic
developments taking place in trading technology, the impact of the EMU and the opportunities
and threats posed by emerging markets.
The Future of the Foreign Exchange Markets discusses the new foreign exchange clearing
bank, the CLSS and considers its implications for the future
structure of the global foreign exchange market, specifically the reduction of settlement risk. It
reviews the emergence of Contracts for Differences (CFDs) which avoid the need for any

settlement. The expected effects of EMU on the size and structure of the market are analysed,
with issues such as the likely size and distribution of activity in the euro being specifically
addressed.

Structure and Scope

The Future of the Foreign Exchange Markets addresses the critical issues including:
Developments in the foreign exchange markets including the spot market, the forwards market
and foreign exchange options and derivatives market.
Trading Technology - in particular the development of electronic matching systems and their
new dominance of trading in the market.
Netting and Settlement systems, with particular reference to the new foreign exchange clearing
bank, CLSS. The rise of CFDs will also be considered.
EMU - a discussion on the size and structure of the market, both during the first year of its
implementation and once stage three of monetary union is completed.
Emerging Markets - considering the growing proportion of forex trading devoted to emerging
market currencies and whether this growth and development will continue in the face of the
turmoil in Asia and Russia.

CONCLUSION:
In conclusion,we can say that the foreign market is,thus,a very impotant aspect of the
measurement of the financial situation of a particular country in the global market place.
Looking at future research, it appears that there will continue to be researchers looking for
anomalies in both the domestic and foreign exchange markets. As stated earlier, this is a $550

trillion a year market and growing continuously. To put it in proper perspective the US GDP is
about $14.2 trillion in 2009. Consequently, if this market was not efficient, we would have a
difficult time finding one that is. All financial markets, including the foreign exchange market
have no entry barriers and competition is unfettered, driving down prices. The sheer size of the
market is such that it is almost impossible to influence prices. Certainly, from time to time, there
is Central Bank intervention in the major currencies. The process is called leaning against the
wind.
In other words, there may be short-term success in disciplining an unruly market, but long-term
effects are almost non-existent. The underlying macroeconomic fundamentals will always assert
itself in the long run. It is important to look at financial markets, particularly foreign exchange
market from a different perspective. If markets are always efficient some adjustment from
inefficiency must occur. Perhaps the more relevant issue is does the market push the price in the
right direction rather than is the price always the efficient one?

From the point of view of

Stiglitz and Grossman (1980) the Efficient Markets Hypothesis is an Idealization that
isunattainable and should be used as a benchmark to measure relative efficiency.The next point
to be thought about is how does one measure this relative efficiency? This could be the
direction of future research. Another school assumes that the markets have long memory and
that shocks to the system go away over a long period of time. Consequently, a longer period of
data, preferably fifty years or more is necessary to adequately test the efficient market theory.
This could be another direction of research. Intangibles, such as investor preferences, and
financial technology, etc. have not been incorporated in models. We could start thinking in this
direction, too.
Many have suggested that the Efficient Markets Hypothesis controversy should be settled in the
markets itself. Here, Roll (1994) comes through with a spirited defense and agrees with
Stieglitz and Grossman (1980) that the Efficient Markets Hypothesis in its present form is
nothing but an idealized version. All prices cannot include all available information known to
everyone. Any abnormal profits accruing to an investor could be looked at as fair rewards for
competitive advantage and/or superior financial technology, not necessarily market inefficiency.
As for markets determining
the outcome, points out that with funds invested to take advantage of market anomalies, it was
no better than a buy and hold strategy. The expected super profits never materialized.