INDEX

Sr. No. Particulars Page No.

1. Executive Summary 2
2. Introduction 3-4
3. Fundamentals of the Foreign Exchange 5-11
Market
4. Risk involved in the Foreign Exchange 12-21
Market
5. Tools and Techniques used to mitigate risks 22-25
6. Foreign Risk Management with reference to 26-41
Canara Bank
 Foreign exchange operation of the bank
 Forex facilities available for Resident
individuals
 Risk minimization techniques used
7. Recommendations and Inferences from the 42-45
Canara Bank Case Study
8. Forex Market – Indian Scenario 46-48
9. Analysis 49
10. Conclusion 50
11 Questionnaire 51-52

EXECUTIVE SUMMARY

1
 In a floating exchange rate regime, the value of a currency changes
frequently. Such changes influence the value of those firms that are involved in
international transactions. Foreign exchange exposure is into 2 classes. One is
known as accounting or translation exposure, while the other is known as
economic exposure The economic exposure is further divided into transaction
exposure and real operating exposure.
If such exposure results in loss to a firm, it needs to manage these exposures.
For this purpose they use some techniques like:
 Forward Market Hedges
 Hedging through currency futures
 Hedging through currency options.
 Money Market Hedge.
 Leads and Lags
 Cross Hedging
 Currency diversification
 Risk Sharing
 Pricing of transaction
Objective of the study:
In this project we are going to find out the different risks that banks face and the
methods that banks use to control foreign exchange risk. In this project, Canara
Bank will be used as a reference point.

Hypothesis:
Banks have developed a sophisticated combination of techniques to
mitigate foreign exchange risks.

2
 INTRODUCTION

The foreign exchange (also known as "forex" or "FX") market is the place
where currencies are traded. The overall forex market is the largest, most liquid
market in the world with an average traded value that exceeds $1.9 trillion per
day and includes all of the currencies in the world.

There is no central marketplace for currency exchange, rather, trade is

conducted over-the-counter. The forex market is open 24 hours a day, five days
a week, with currencies being traded worldwide among the major financial
centers of London, New York, Tokyo, Zürich, Frankfurt, Hong Kong,
Singapore, Paris and Sydney - spanning most time zones.

The forex is the largest market in the world in terms of the total cash
value traded, and any person, firm, or country may participate in this market.

Meaning of Foreign Exchange Market (Forex Market):

The foreign exchange market is the "place" where currencies are traded.
Currencies are important to most people around the world, whether they realize
it or not, because currencies need to be exchanged in order to conduct foreign
trade and business

Foreign Exchange as a Financial Market:

Currency exchange is very attractive for both the corporate and individual
traders who make money on the Forex - a special financial market assigned for
the foreign exchange. The following features make this market different in
compare to all other sectors of the world financial system:

3
Heightened sensibility to a large and continuously changing number of factors;
 Accessibility to all traders in the major currencies;
 Guaranteed quantity and liquidity of the major currencies;
 Increased consideration for several currencies, round-the clock business
hours which enable traders to deal after normal hours or during national
holidays in their country finding markets abroad open and
 Extremely high efficiency relative to other financial markets.

“Foreign exchange risk”

In considering the viewpoint of so-called real businesses (those that make cars,
mine, produce electronics, etc.), the 'foreign exchange risk' has by far become
the largest risk in international business today, often larger than political or
market risk. For example, if a German chemical company invests in a plant in
India, it makes the investment in deutsch-marks. The chemical products sold
locally from that plant are paid in rupees, India's currency. If the value of the
rupee then drops in terms of the deutschmark, the return on the original
investment will drop as well. In short, the biggest risk of such investments is not
whether Indians will buy the chemicals (market risk) or whether the Indian
government will nationalize the plant (political risk), but the changes in the
values of the currencies involved (foreign exchange risk).

4
FUNDAMENTALS OF THE FOREIGN EXCHANGE MARKET

QUOTES:
When a currency is quoted, it is done in relation to another currency, so that the
value of one is reflected through the value of another. Therefore, if you are
trying to determine the exchange rate between the U.S. dollar (USD) and the
Japanese yen (JPY), the quote would look like this:

USD/JPY = 119.50

This is referred to as a currency pair. The currency to the left of the slash is the
base currency, while the currency on the right is called the quote or counter
currency. The base currency (in this case, the U.S. dollar) is always equal to one
unit (in this case, US$1), and the quoted currency (in this case, the Japanese
yen) is what that one base unit is equivalent to in the other currency. The quote
means that US$1 = 119.50 Japanese yen. In other words, US$1 can buy 119.50
Japanese yen

Direct Quote vs. Indirect Quote

There are two ways to quote a currency pair, either directly or indirectly. A
direct quote is simply a currency pair in which the domestic currency is the base
currency; while an indirect quote, is a currency pair where the domestic
currency is the quoted currency. So if you were looking at the Canadian dollar
as the domestic currency and U.S. dollar as the foreign currency, a direct quote
would be CAD/USD, while an indirect quote would be USD/CAD. The direct
quote varies the foreign currency, and the quoted, or domestic currency, remains
fixed at one unit. In the indirect quote, on the other hand, the domestic currency
is variable and the foreign currency is fixed at one unit.

5
For example, if Canada is the domestic currency, a direct quote would be 0.85
CAD/USD, which means with C$1, you can purchase US$0.85. The indirect
quote for this would be the inverse (1/0.85), which is 1.18 USD/CAD and
means that USD$1 will purchase C$1.18.

In the forex spot market, most currencies are traded against the U.S. dollar, and
the U.S. dollar is frequently the base currency in the currency pair. In these
cases, it is called a direct quote. This would apply to the above USD/JPY
currency pair, which indicates that US$1 is equal to 119.50 Japanese yen.

However, not all currencies have the U.S. dollar as the base. The Queen's
currencies - those currencies that historically have had a tie with Britain, such as
the British pound, Australian Dollar and New Zealand dollar - are all quoted as
the base currency against the U.S. dollar. The euro, which is relatively new, is
quoted the same way as well. In these cases, the U.S. dollar is the counter
currency, and the exchange rate is referred to as an indirect quote. This is why
the EUR/USD quote is given as 1.25, for example, because it means that one
euro is the equivalent of 1.25 U.S. dollars.
Most currency exchange rates are quoted out to four digits after the decimal
place, with the exception of the Japanese yen (JPY), which is quoted out to two
decimal places.

Cross Currency
When a currency quote is given without the U.S. dollar as one of its
components, this is called a cross currency. The most common cross currency
pairs are the EUR/GBP, EUR/CHF and EUR/JPY. These currency pairs expand
the trading possibilities in the forex market, but it is important to note that they
do not have as much of a following (for example, not as actively traded) as pairs
that include the U.S. dollar, which also are called the majors.

6
Bid and Ask
As with most trading in the financial markets, when you are trading a currency
pair there is a bid price (buy) and an ask price (sell). Again, these are in relation
to the base currency. When buying a currency pair (going long), the ask price
refers to the amount of quoted currency that has to be paid in order to buy one
unit of the base currency, or how much the market will sell one unit of the base
currency for in relation to the quoted currency.
The bid price is used when selling a currency pair (going short) and reflects how
much of the quoted currency will be obtained when selling one unit of the base
currency, or how much the market will pay for the quoted currency in relation
to the base currency.
The quote before the slash is the bid price, and the two digits after the slash
represent the ask price (only the last two digits of the full price are typically
quoted). Note that the bid price is always smaller than the ask price. Let's look
at an example:
USD/CAD = 1.2000/05
Bid = 1.2000
Ask = 1.2005

If you want to buy this currency pair, this means that you intend to buy the base
currency and are therefore looking at the ask price to see how much (in
Canadian dollars) the market will charge for U.S. dollars. According to the ask
price, you can buy one U.S. dollar with 1.2005 Canadian dollars.
However, in order to sell this currency pair, or sell the base currency in
exchange for the quoted currency, you would look at the bid price. It tells you
that the market will buy US$1 base currency (you will be selling the market the
base currency) for a price equivalent to 1.2000 Canadian dollars, which is the
quoted currency.

7
Whichever currency is quoted first (the base currency) is always the one in
which the transaction is being conducted. You either buy or sell the base
currency. Depending on what currency you want to use to buy or sell the base
with, you refer to the corresponding currency pair spot exchange rate to
determine the price.

Spreads and Pips

The difference between the bid price and the ask price is called a spread. If we
were to look at the following quote: EUR/USD = 1.2500/03, the spread would
be 0.0003 or 3 pips, also known as points. Although these movements may
seem insignificant, even the smallest point change can result in thousands of
dollars being made or lost due to leverage. Again, this is one of the reasons that
speculators are so attracted to the forex market; even the tiniest price movement
can result in huge profit.

The pip is the smallest amount a price can move in any currency quote. In the
case of the U.S. dollar, euro, British pound or Swiss franc, one pip would be
0.0001. With the Japanese yen, one pip would be 0.01, because this currency is
quoted to two decimal places. So, in a forex quote of USD/CHF, the pip would
be 0.0001 Swiss francs. Most currencies trade within a range of 100 to 150 pips
a day.
Currency Quote Overview
USD/CAD = 1.2232/37
Base Currency to the left (USD)
Quote/Counter Currency Currency to the right (CAD)
Bid Price 1.2232 Price for which the market maker will buy the base currency.
Bid is always smaller than ask. Ask Price 1.2237 Price for which the market
maker will sell the base currency.

8
Pip One point move, in USD/CAD it is .0001 and 1 point change would be from
1.2231 to 1.2232. The pip/point is the smallest movement a price can make.
Spread in this case is 5 pips/points; difference between bid and ask price
(1.2237-1.2232).

Spot Market and the Forwards and Futures Markets

There are actually three ways that institutions, corporations and individuals
trade forex: the spot market, the forwards market and the futures market. The
spot market always has been the largest market because it is the "underlying"
real asset that the forwards and futures markets are based on. In the past, the
futures market was the most popular venue for traders because it was available
to individual investors for a longer period of time. However, with the advent of
electronic trading, the spot market has witnessed a huge surge in activity and
now surpasses the futures market as the preferred trading market for individual
investors and speculators. When people refer to the forex market, they usually
are referring to the spot market. The forwards and futures markets tend to be
more popular with companies that need to hedge their foreign exchange risks
out to a specific date in the future.

Spot Market
More specifically, the spot market is where currencies are bought and sold
according to the current price. That price, determined by supply and demand, is
a reflection of many things, including current interest rates, economic
performance, sentiment towards ongoing political situations (both locally and
internationally), as well as the perception of the future performance of one
currency against another. When a deal is finalized, this is known as a "spot
deal". It is a bilateral transaction by which one party delivers an agreed-upon
currency amount to the counter party and receives a specified amount of another
currency at the agreed-upon exchange rate value. After a position is closed, the

9
settlement is in cash. Although the spot market is commonly known as one that
deals with transactions in the present (rather than the future), these trades
actually take two days for settlement.

Forwards and Futures Markets

Unlike the spot market, the forwards and futures markets do not trade actual
currencies. Instead they deal in contracts that represent claims to a certain
currency type, a specific price per unit and a future date for settlement.
In the forwards market, contracts are bought and sold OTC between two parties,
who determine the terms of the agreement between themselves.
In the futures market, futures contracts are bought and sold based upon a
standard size and settlement date on public commodities markets, such as the
Chicago Mercantile Exchange. In the U.S., the National Futures Association
regulates the futures market. Futures contracts have specific details, including
the number of units being traded, delivery and settlement dates, and minimum
price increments that cannot be customized. The exchange acts as a counterpart
to the trader, providing clearance and settlement.
Both types of contracts are binding and are typically settled for cash for the
exchange in question upon expiry, although contracts can also be bought and
sold before they expire. The forwards and futures markets can offer protection
against risk when trading currencies. Usually, big international corporations use
these markets in order to hedge against future exchange rate fluctuations, but
speculators take part in these markets as well.

Two types of analysis are used for the market movements forecasting:
fundamental, and technical (the chart study of past behavior of commodity
prices). The fundamental one focuses on the theoretical models of exchange rate
determination and on the major economic factors and their likelihood of
affecting the foreign exchange rates.

10
The main economic theories found in the foreign exchange deal with parity
conditions. A parity condition is an economic explanation of the price at which
two currencies should be exchanged, based on factors such as inflation and
interest rates. The economic theories suggest that when the parity condition
does not hold, an arbitrage opportunity exists for market participants. However,
arbitrage opportunities, as in many other markets, are quickly discovered and
eliminated before even giving the individual investor an opportunity to
capitalize on them. Other theories are based on economic factors such as trade,
capital flows and the way a country runs its operations. We review each of them
briefly below.

11
RISKS INVOLVED IN THE FOREIGN EXCHANGE MARKET
There are a large number of risks associated with transactions in the foreign
exchange market. A few of the most important risks are as follows:
 Transaction risk.
 Position risk.
 Settlement or credit risk.
 Mismatch or liquidity risk.
 Operational risk.
 Sovereign risk.
 Cross- country risk.

A.)Transaction risk:
Any transaction leading to future receipts in any form or creation of long term
asset. This consists of a number of:
 Trading items (foreign currency, invoiced trade receivables and
payables).
 Capital items (foreign currency dividend and loan payments).
Exposure associated with the ownership of foreign currency denominated assets
and liabilities.

B.)Position risk:
Bank dealings with customers continuously, both on spot and forward basis,
results in positions (buy i.e. long position or sell i.e. short position) being
created in currencies in which these transactions are denominated. A position
risk occurs when a dealer in bank has an overbought (long) or an oversold
(short) position. Dealers enter into these positions in anticipation of a favorable
movement.

12
The risk arising out of open positions is easy to understand. If one currency is
overbought and it weakens, one would be able to square the overbought position
only by selling the currency at a loss. The same would be the position if one is
oversold and the currency hardens.

C.)Settlement or credit risk:

Also known as time zone risk, this is a form of credit risk that arises from
transactions where the currencies settle in different time zones. A transaction is
not complete until settlement has taken place in the latest applicable time zone.
This is also referred to as “Herstatt Risk”. Arising from the failure or default of
counterparty. Technically, this is a credit risk where only one side of the
transaction has settled. If counterparty fails before any settlement of a contract
occurs, the risk is limited to the difference between the contract price and the
current market price (i.e. an exchange rate risk).
Settlement risk is the risk of a counterparty failing to meet its obligations in a
financial transaction after the bank has fulfilled its obligations on the date of
settlement of the contract. Settlement risk exposure potentially exists in foreign
exchange or local currency money market business.

D.)Mismatch or liquidity risk:

In the foreign exchange business it is not always possible to be in an ideal

position where sales and purchases are matched or according to maturity and
there are no mismatched situations. Some mismatching of maturities is in
general unavoidable. Liquidity risk' arises from situations in which a party
interested in trading an asset cannot do it because nobody in the market wants to
trade that asset. Liquidity risk becomes particularly important to parties who are
about to hold or currently hold an asset, since it affects their ability to trade.

13
Manifestation of liquidity risk is very different from a drop of price to zero. In
case of a drop of an asset's price to zero, the market is saying that the asset is
worthless. However, if one party cannot find another party interested in trading
the asset, this can potentially be only a problem of the market participants with
finding each other. This is why liquidity risk is usually found higher in
emerging markets or low-volume markets.

Liquidity risk is financial risk due to uncertain liquidity. An institution might

lose liquidity if its credit rating falls, it experiences sudden unexpected cash
outflows, or some other event causes counterparties to avoid trading with or
lending to the institution. A firm is also exposed to liquidity risk if markets on
which it depends are subject to loss of liquidity.

Liquidity risk tends to compound other risks. If a trading organization has a

position in an illiquid asset, its limited ability to liquidate that position at short
notice will compound its market risk. Suppose a firm has offsetting cash flows
with two different counterparties on a given day. If the counterparty that owes it
a payment defaults, the firm will have to raise cash from other sources to make
its payment. Should it be unable to do so, it too will default. Here,
liquidity risk is compounding credit risk

E.)Operational risk:

Operational risk is related to the manner in which transactions are settled or

handled operationally. Some of the risks are discussed below:

I.)Dealing and settlement: These functions must be properly separated, as

otherwise there would be inadequate segregation of duties.

14
Ii.)Confirmation: Dealing is usually done by telephone/telex/Reuters or some
other electronic system. It is essential that these deals are confirmed by written
confirmations. There is a risk of mistakes being made related to amount, rate,
value, date and the likes.

Iii.)Pipeline transactions: There are, at times, faults in communication and often

cover is not available for pipeline transactions entered into by branches. There
can be delays in conveying details of transactions to the dealer for a cover
resulting in the actual position of the bank being different from what is shown
by the dealers’ position statement.

IV.)Overdue bills and forward contracts: The trade finance departments of

banks normally monitor the maturity of export bills and forward contracts. A
risk exists in that the monitoring may not be done properly.

F.)Sovereign risk: Another risk which banks and other agencies that deal in
foreign exchange have to be aware of is sovereign risk- the risk on the
government of a country.

G.)Cross-country risk: It is often not prudent to have large exposures on any one
country may go through troubled times. I such a situation, the bank/entity that
has an exposure could suffer large losses. To control and limit risks arising out
of cross country exposures, management normally lay down cross country
exposure limits. Risk management in foreign exchange is imperative as the lack
of these could even result in the bankruptcy and closure of the organization.

15
TYPES OF EXPOSURE

Exchange rates cannot be forecasted with perfect accuracy, but the firms can at
least measure its exposure to exchange rate fluctuations. If the firm is highly
exposed to exchange rate fluctuations, it can consider techniques to reduce its
exposure in the following chapter. Before choosing these techniques, the firm
should first measure its degree of exposure.

 Transaction exposure

 Economic exposure

 Translation exposure.

Transaction Exposure

The value of banks cash inflows received in various currencies will be affected
by respective exchange rates of these currencies when converted into the
currency desired. Similarly, the value of a banks cash outflows in various
currencies will be dependent on the respective exchange rates of these
currencies. The degree to which the value of future cash transitions can be
affected by exchange rate fluctuations in referred to as transactions can be
affected by exchange rate fluctuations is referred to as transaction exposure.

Two steps are involved in measuring transaction exposure: (1) determining the
projected net amount of inflows or outflows in each foreign currency, and (2)
determining the overall risk of exposure to those currencies.

Economic Exposure

The degree to which a banks present value of future cash flows can be
influenced by exchange rate fluctuations is referred to as economic exposure to
exchange rates. Transaction exposure is a subset of economic exposure.
However, the influence of exchange rate fluctuations on banks cash flows is not
always due to transaction of currencies.

16
Economic Exposure to Exchange Rate Fluctuations

Variables That Influence Impact of Local Impact of Local

the Firms’ Local Currency Currency
Currency Inflows Appreciation on Depreciation on
Variables Variables

Local sales (relative to Decrease Increase

foreign competition in
local markets)

Banks exports denominated Decrease Increase

in local currency

Banks exports denominated Decrease Increase

in foreign currency

Interest received from Decrease Increase

foreign investments

Variables That Influence the Banks Local Currency Outflows

Banks imported supplies No Change No Change

denominated in local
currency

Banks imported supplies Decrease Increase

denominated in foreign
currency

Interest owed on foreign Decrease Increase

funds borrowed

The economic exposure refers to the change in expected cash flows as a result
of an unexpected change in exchange rates. For example, an American exporter
who operates in French market can increase his market share merely by
reducing the French Company which is a potential competitor to the American

17
firm can profit indirectly from currency losses of the American company. Thus
it can be se en that though the French company is not directly exporting but
business competition can be generated on account of the strength of the
currency of competitors, which can be termed as economic exposure. Economic
risks cannot be managed as they are not reported in accounts, are difficult to
quantify and perhaps unhedgable.

Translation Exposure

The exposure of the MNC’s consolidated financial statements to exchange rate

fluctuations is known as translation exposure. For example, if the assets or
liabilities of the MNC’s subsidiaries are translated at something other than
historical exchange rates, the balance sheet will be affected by fluctuations in
currency values over time. In addition, subsidiary earnings translated into the
reporting currency on the consolidated income statement are subject to changing
exchange rates.

Transaction exposure: exists when the future cash transactions of a firm are
affected by exchange rate fluctuations. For example, a US firm that purchases
German goods may need marks to buy the goods. While it may know exactly
how many marks it will need, it doesn’t know how many dollars will be needed
to be exchanged for those marks. This uncertainly occurs because the exchange
rate between marks and dollars fluctuates over time. Also consider a US - based
MNC that will be receiving a foreign currency. Its future receivables are
exposed since it is uncertain of the dollars it will obtain when exchanging the
foreign currency received.

If transaction exposure does exist, the firm faces three major tasks. First it must
identify the degree of transaction exposure. Second, it must decide whether to

18
hedge this exposure. Finally, if it decides to hedge part or all of the exposure it
must choose among the various hedging techniques available.

FOREIGN EXCHANGE RISK MANAGEMENT POLICY

The foreign exchange risk management policy should clearly define

instruments in which the bank is authorized to trade, risk limits commensurate
with the bank’s activities, regularity of reports to management, and who is
responsible for producing such reports. The policy should be reviewed on a
regular basis, normally at least annually, to ensure that it remains appropriate.
The main points that need to be considered when drawing up a policy are given
below:
a) Open position limits commensurate with customer driven turnover, and
the banks’ appetite for market risk.
b) Separate limits should be allocated for each currency, together with an
“Overall cap” limit. Banks that assume risk on a proprietary trading basis
should also introduce measures to limit intraday risk (normally a
maximum of five times the overnight cap limit).
c) Where a bank trades with counterparties other than members of their
own group located in Zone A countries, settlement and country limits
Should be addressed and clearly defined.
d) Forward foreign exchange mismatch limits.
e) List of approved instruments.
f) Use of foreign exchange derivatives.
g) The expertise and experience of authorized personnel.
h) Authority to trade with counterparties other than group companies.
i) Monitoring and reporting systems.
j) Recording and follow up of limit excesses.
k) Impact on P&L of an adverse 10% movement in exchange rates on

19
maximum permitted exposure.
l) Imposition of a “stop loss” limit to restrict or prevent any further trading
other than client deals and hedging.
m) Segregation of duties.
n) Trading mandates for authorized personnel.
o) Limitation on out of hours trading.
p) List of authorized brokers (if applicable).
q) Code of Conduct for authorized personnel.

PROCEDURES AND SYSTEMS

The Commission requires banks to monitor their foreign exchange risk on
a frequent and timely basis. The Commission would expect banks that assume
any foreign exchange risk to be in a position to measure their positions on an

20
ongoing basis and to report to management daily. It follows from this that a
bank must have adequate procedures and systems for monitoring foreign
exchange risk. This requires
a) A clear allocation of the responsibility for measuring and reporting
foreign exchange risk.

b) The maintenance of reliable systems that can produce accurate

reports promptly.

c) Active senior management involvement in, and clearly allocated

responsibility for, foreign exchange risk reporting.

d) Regular reporting to group or parent companies.

The system that produces the foreign exchange risk reports should be linked
to the bank‘s core systems, and be capable of being reconciled to core data.

Reports should follow the principles of good management information, for

example:
a) Clarity
b) Highlight key information, in particular breaches or exceptions
c) Highlight unutilized limit capacity

d) Use of an exception based commentary.

TOOLS AND TECHNIQUES USED BY BANKS TO MITIGATE

RISK

 1. HEDGING.

21
  2. SPECULATION.

Hedging: Many derivatives transactions take place on the bourses. Derivative

products like options were designed to act as hedging instruments. Many people
misunderstand the concept of hedging and some regard derivatives as
speculative products.

Hedging means entering into two complimentary contracts so that profits from
one offset losses from the other. This reduces the risk of loss due to price
fluctuations. In simple terms it can be defined as “a method of reducing the risk
of loss caused by price fluctuations.

Hedging with Forwards

Hedging refers to managing risk to an extent that makes it bearable. In
international trade and dealings foreign exchange play an important role.
Fluctuations in the foreign exchange rate can have significant impact on
business decisions and outcomes. Many international trade and business
dealings are shelved or become unworthy due to significant exchange rate risk
embedded in them. Historically, the foremost instrument used for exchange rate
risk management is the forward contract. Forward contracts are customized
agreements between two parties to fix the exchange rate for a future transaction.
This simple arrangement would easily eliminate exchange rate risk, but it has
some shortcomings, particularly getting a counter party who would agree to fix
the future rate for the amount and time period in question may not be easy.
.
Hedging with Futures
Noting the shortcomings of the forward market, particularly the need and the
difficulty in finding a counter party, the futures market came into existence. The
futures market basically solves some of the shortcomings of the forward market.

A currency futures contract is an agreement between two parties – a buyer and a

seller –to buy or sell a particular currency at a future date, at a particular
exchange rate that is fixed or agreed upon today. This sounds a lot like the
forward contract. In fact the futures contract is similar to the forward contract
but is much more liquid. It is liquid because it is traded in an organized
exchange– the futures market (just like the stock market). Futures contracts are
standardized contracts and thus are bought and sold just like shares in the stock
market. The futures contract is also a legal contract just like the forward, but
the obligation can be ‘removed’ before the expiry of the contract by making an
opposite transaction. As for hedging with futures, if the risk is an appreciation
of value one needs to buy futures and if the risk is depreciation then one needs
to sell futures.

22
Hedging with Currency Futures
•To hedge it should take a futures position such that futures generate a positive
cash flow whenever the asset declines in value.
•The bank is long in the underlying asset, it should go short in futures
•When the bank is short in the underlying asset –– it should go long in futures.

Hedging using Options

A currency option may be defined as a contract between two parties – a buyer
and a seller - whereby the buyer of the option has the right but not the
obligation, to buy or sell a specified currency at a specified exchange rate, at or
before a specified date, from the seller of the option. While the buyer of option
enjoys a right but not obligation, the seller of the option nevertheless has an
obligation in the event the buyer exercises the given right. There are two types
of options:

• Call options – gives the buyer the right to buy a specified currency at a
specified exchange rate, at or before a specified date.

• Put options – gives the buyer the right to sell a specified currency at a
specified exchange rate, at or before a specified date.

The compensation is called the price or the premium of the option. Since the
seller of the option is being compensated with the premium for giving the right,
the seller thus has an obligation in the event the right is exercised by the buyer.

Money Market Hedge

A money market hedge involves taking a money market position to cover a

future payables or receivable position.

Currency Option Hedge

Banks recognize that hedging techniques such as the forward hedge and money
market hedge can backfire when a payables currency depreciates or a receivable

23
currency appreciates over the hedged period. In these situations, an unhedged
strategy would likely outperform the forward hedge or money market hedge.
The ideal type of hedge would insulate the bank against adverse exchange rate
movements but allow the firm to benefit from favorable exchange rate
movement. Currency options exhibit these attributes. However, a bank must
assess whether the advantages of a currency option hedge are worth the price
(premium) paid for it.

Is Hedging Worthwhile?

If a bank decides to hedge its periodic future payables denominated in a foreign

currency. The forward contract is a common heeding device against this foreign
currency position. If the spot rate in the future exceeds today’s forward rate,
then the company will save money by hedging its net payables (as opposed to
no hedge). If the spot rate in the future is less than today’s forward rate, then the
company will lose money by hedging its net payables. A forward rate that
serves as an unbiased forecast of the future spot rate will underestimate and
overestimate the future sport rate with equal frequency. In this case periodic
hedging with the forward rate will be more costly in some periods and less
costly in other periods. On the average, it will not reduce the company cost.
Thus it could be argued that hedging is not worthwhile.

If the company chooses to hedge only in those situations in which they expect
the currency to move in a direction that will make hedging feasible. That is they
may hedge future payables that they foresee appreciation in the currency
denominating the payables. In addition they my hedge future receivables if they
foresee depreciation in the currency denominating the receivables.

In general, decisions on whether to hedge, how much to hedge and how to

hedge will vary with the company management’s degree of risk aversion, and

24
its forecasts of exchange rates. Companies that are more conservative tend to
hedge more of their exposure.

Most company does not perceive their foreign exchange management as a profit
center. The main responsibility is to (1) measure the potential exposure to
exchange rate movements, which is necessary to assess the risk (2) determine
whether the exposure should be hedged, and (3) determine how the exposure
should be hedged, if at all. Thus is normally inappropriate for the foreign
exchange management group to set a profit goal, as it may even use some
hedges that will likely result in slightly worse outcomes than no hedges at all,
just to avoid the possibility of a major adverse movement in exchange rates.

Speculation: Speculation is defined as buying and selling the instruments

without taking their delivery. It is also called as non-delivery based transaction.
Speculators are those who have no exposure to underlying asset. The
speculators are trading for very short duration of time and their main motive is
to earn profits as there are changes in the prices within a short duration of time.
The speculators are exposed to risk as they are employing their assets without
much study and in the process provide liquidity in the market. It changes hands
from options to futures to forwards to commodities and also to banks. Such
volatile funds moving for profits are termed as ‘HOT MONEY’. Quantum of
Hot Money depends upon market conditions, worldwide recessionary /growth
trends, natural and political uncertainties. Regional uncertainties and comforts
decide the direction of movements of funds.

Speculators are of two kinds: Optimistic and pessimistic. Former is called as

Bulls and later as bears. Bulls expect price appreciation/strengthening of
currencies. Hence Bulls buy and hold (long position) with a hope to sell at a
higher price. Bears expect fall of price/weakening of currencies .Hence Bears
sell (short sell) with a hope to recover (buy) at a lower price.

FOREX RISK MANAGEMENT WITH REFERENCE TO

CANARA BANK

25
Vision

To emerge as a ‘Best Practices Bank’ by pursuing global benchmarks in

profitability, operational efficiency, asset quality, risk management and
expanding the global reach.

Mission

To provide quality-banking services with enhanced customer orientation, higher

value creation for stakeholders and to continue as a responsive corporate social
citizen by effectively blending commercial pursuits with social banking.

The new brand identity for Canara Bank is based on the idea of a bond and is a
representation of the close ties between the Bank and its many stakeholders –
from customers and employees to investors, institutions and society at large.
With its rich heritage of banking expertise, dedicated customer service and
corporate social responsibility, Canara Bank is a powerful enabler who helps its
stakeholders achieves their goals. The two seamlessly connected links capture
the essence of this partnership.

Canara Bank has more than 45,800 employees and serves over 31 million
customers through a network of over 2600 branches spread across the
country. The simple, memorable symbol can be easily recalled and decoded

26
by all of the Bank’s diverse audiences.

Foreign Exchange Operations of Branch of Canara Bank:

First we will see the Hierarchy of Foreign Exchange Operations in

Canara Bank. First it starts with International Foreign Exchange. Under this
International Foreign Exchange, Forex Department (FD) has existing. FD is
having its own Account in their name. So they do not dependent on any other.

In India around 13 departments are situated. In Maharashtra there are

only 2 FD’s one is situated in Mumbai and another one is in pune.

Under this FD, Foreign Exchange Cell comes. There are 22 Foreign
Exchange Cells situated in India. These Foreign Exchange Cells should report
the daily report of foreign exchange operations to Foreign Department.

Under this FD another branch also existed called it as Designated Branch

(D-Branch). This D-Branch is not like a Foreign Exchange Cell. This branch is
not dependent on any other Foreign Exchange Cells, but they have their own
Account. For instance, for foreign exchange transaction purpose a customer
approaches Avenue Branch of Mumbai. Avenue Branch is a D-Branch, so will
not send this transaction to any other Foreign Exchange Cells but it operates in
their own account under the name of Foreign Department.

In Maharashtra especially in Mumbai these D-Branches are situated viz., in

Naigaon Branch etc.,

Apart from all these, still another branch is there, it is called Overseas Branch.
These Overseas Branches are Operate as branches or subsidiaries of the parent
Bank. These branches are to seek deposits and grant loans in currencies other
than the currency of the host government.

27
 Diagrammatic way of Hierarchy of Foreign Exchange Operations in
Canara Bank

INTERNATIONAL FOREIGN EXCHANGE

Designated Branch Foreign Department

Foreign Exchange Cell

Now Let us see particularly of Mumbai Branch:

There is only one Foreign Exchange Transaction Cell, is situated in Mumbai.
Mumbai Foreign Exchange Transaction is a Foreign Exchange Cell. This is
comes under Foreign Department from previous diagram we can clarify it.

28
 This Mumbai Foreign Exchange Cell reports daily foreign exchange
operations to Mumbai Foreign Department. So for this reporting purpose it is
having a new computer technology, by this they only press a key to submit or to
send the report at the end of the day. So for this technology they have separate
computer.

Forex Facilities for Residents (Individuals)

Introduction

29
The legal framework for administration of foreign exchange transactions in
India is provided by the Foreign Exchange Management Act, 1999. Under the
Act, freedom has been granted for buying and selling of foreign exchange for
undertaking current account transactions. The Government has issued Foreign
Exchange Management (Current Account Transactions) Rules, 2000 which
have been notified vide Notifications GSR. 381(E) dated May 3, 2000, S.O.
301(E) dated March 30, 2001 and GSR 608(E) dated September 13, 2004 as
amended from time to time. The last amendment to the G.S.R is viding
Notification No. G.S.R. No.412 (E) dated July 10, 2006 notifying certain
relaxations on current account transactions in public interest.

Under the Foreign Exchange Management Act, 1999 (FEMA) [in lieu of
FERA], which has come into force with effect from June 1, 2000, all
transactions involving foreign exchange have been classified either as Capital or
Current Account transactions. All transactions undertaken by a resident that do
not alter his assets or liabilities outside India are current account transactions. In
terms of Section 5 of the FEMA, persons are free to buy or sell foreign
exchange for any current account transaction except for those transactions on
which Central Government has imposed restrictions, vide its Notification
referred to above A copy of the Notification is available in the Official Gazette

I. Guidelines on Travel Related Matters

A person resident in India' is defined in Section 2(v) of FEMA, 1999 as:
A person residing in India for more than one hundred and eighty-two days
during the course of the preceding financial year but does not include –

(A) a person who has gone out of India or who stays outside India, in either case
- for or on taking up employment outside India, or for carrying on outside India
a business or vocation outside India, or for any other purpose, in such

30
circumstances as would indicate his intention to stay outside India for an
uncertain period;

(B) a person who has come to or stays in India, in either case, otherwise than –
for or on taking up employment in India, or for carrying on in India a business
or vocation in India, or for any other purpose, in such circumstances as would
indicate his intention to stay in India for an uncertain period; any person or body
corporate registered or incorporated in India, an office, branch or agency in
India owned or controlled by a person resident outside India, an office, branch
or agency outside India owned or controlled by a person resident in India; That
is to qualify as a resident the person concerned will have to fulfill the criterion
regarding (a) the duration of stay and (b) the purpose of stay.

The term Person Resident Outside India is defined in the Act as a person who is
not a person resident in India.

Buying foreign exchange

Foreign exchange can be purchased from any authorized dealer. Besides
authorized dealers, full-fledged moneychangers are also permitted to release
exchange for business and private visits.

Authorized Dealer
An Authorized Dealer is normally a bank specifically authorized by the Reserve
Bank under Section 10(1) of FEMA, 1999, to deal in foreign exchange or
foreign securities (List available on www.fedai.org.in ).

Exchange is available for a business trip

31
Authorized Dealers can release foreign exchange up to USD 25,000 for a
business trip to any country other than Nepal and Bhutan. Release of foreign
exchange exceeding USD 25,000 for a travel abroad (other than Nepal and
Bhutan) for business purposes, irrespective of period of stay, requires prior
permission from Reserve Bank. Visits in connection with attending of an
international conference, seminar, specialized training, study tour, apprentice
training, etc., are treated as business visits. Maintenance expense of a patient
going abroad for medical treatment and/or check up or for accompanying as
assistant to the patient going abroad for medical treatment / check-up also falls
within this category. Incidentally, no release of foreign exchange is admissible
for any kind of travel to Nepal and Bhutan or for any transaction with persons
resident in Nepal and Bhutan.

Obtaining of foreign exchange for medical treatment outside India

Authorized Dealers may release foreign exchange upto USD 100,000 or its
equivalent to resident Indians for medical treatment abroad on self declaration
basis of essential details, without insisting on any estimate from a
hospital/doctor in India/abroad. A person visiting abroad for medical treatment
can obtain foreign exchange exceeding the above limit, provided the request is
supported by an estimate from a hospital/doctor in India/abroad. This exchange
is to meet the expenses involved in treatment.

Exchange is available for studies outside India

ADs may release an amount of USD 100,000 per academic year or the estimate
received from the institution abroad, whichever is higher.

Students going abroad for studies are treated as Non-Resident Indians (NRIs)
and are eligible for all the facilities available to NRIs under FEMA. In addition,
they can receive remittances up to USD 100,000 from close relatives (as defined

32
in Section 6 of the Companies Act, 1956) from India on self-declaration,
towards maintenance, which could include remittances towards their studies
also. Educational and other loans availed of by students as resident in India can
be allowed to continue. There is no dilution in the existing remittance facilities
to students in regard to their academic pursuits.

Foreign exchange one can buy when traveling abroad on private visits to a
country outside India
In connection with private visits abroad, viz., for tourism purposes, etc., foreign
exchange up to USD10,000, in any financial year may be obtained from an
authorized dealer on a self-declaration basis. The ceiling of USD10,000 is
applicable in aggregate and foreign exchange may be obtained for one or more
than one visit provided the aggregate foreign exchange availed of in one
financial year does not exceed the prescribed ceiling of USD10,000 {The
facility was earlier called B.T.Q or F.T.S.}. This limit of USD10,000 per
financial year can be availed of by a person along with foreign exchange for
travel abroad for any purpose, including for employment or immigration or
studies. However, no foreign exchange is available for visit to Nepal and/or
Bhutan for any purpose.

Foreign exchange is available to a person going abroad on

employment
Person going abroad for employment can draw foreign exchange up-to
USD100,000 from any authorized dealer in India on the basis of self-
declaration.

33
Foreign exchange is available to a person going abroad on
emigration
Person going abroad on emigration can draw foreign exchange up to USD100,
000 on self- declaration basis from an authorized dealer in India or the amount
prescribed by the country of emigration. This amount is only to meet the
incidental expenses in the country of emigration. No amount of foreign
exchange can be remitted outside India to become eligible or for earning points
or credits for immigration. All such remittances require prior permission of the
Reserve Bank.
Category of visit, which requires prior approval from the Reserve
Bank or Govt. of India
Dance troupes, artistes, etc., who wish to undertake cultural tours abroad, are
required to obtain prior approval from the Ministry of Human Resources
Development, Government of India, New Delhi.
Foreign exchange can be purchased in foreign currency notes while buying
exchange for travel abroad
Travelers are allowed to purchase foreign currency notes/coins only up to USD
2000. Balance amount can be taken in the form of traveler’s cheque or banker’s
draft. Exceptions to this are (a) travelers proceeding to Iraq and Libya can draw
foreign exchange in the form of foreign currency notes and coins not exceeding
USD 5000 or its equivalent; (b) travelers proceeding to the Islamic Republic of
Iran, Russian Federation and other Republics of Commonwealth of Independent
States can draw entire foreign exchange released in the form of foreign currency
notes or coins.

34
Minimization of Forex Exposure techniques uses in Mumbai
Forex Cell

 Exporter’s Credit Guarantee Corporation (ECGC)

This is the Government owned corporation. This company gives

insurance not only to banks but also to the exporters and importers. And
it also gives the guarantee towards the opposite party i.e., customer of
domestic party.

If exporter or importer cheats in their business, then Banks will take the
responsible all those losses. For this purpose only Government has
established this ECGC to minimize the risk or losses to banks. So if
something happens then banks straightly approach this ECGC to refund
or reimburse its losses.

 Banned / Caution List by Government

Every year Government makes 2 type of list. One is related to company

and another one is about country. In that it makes 2 categories, one is
banning category and another one is caution category.

If any exporter or importer wants to trade with any country / company,

which is banned by Government at that time banks will not act as a
mediator between these two parties.

Suppose any company / country in the list of caution. Then bank may
advice to its customers to take the permission from government or RBI.
Then only banks are ready to act as a mediator between both parties.

35
 Don &Break Agency

This is international Agency situated in Russia. This is nothing but

Credit Rating Agency. If any customer comes to trade with any country
which is not banned / cautioned by Government but bank is having some
fear of cheat. Then for safety purpose banks approaches this Agency
called D&B Agency.

This agency studies the pros and cons in details about all aspects of that
country / company. And submit the report to particular bank. For this
purpose Agency takes some commissions, paid by banks only.
“Prevention Better than Cure” theory they are adopting to minimize the
exposure.

 Square of the position

Banks not kept themselves any amount or transaction at the end of the
day. Every day they square of their positions. So by this they do not
have any exchange rate exposure. For only working capital requirement
they have some foreign currency with them, this is very minor not much
affective with exchange rate exposure.

36
Other Activities in Mumbai Forex Cell

Report
They prepare 2 types of reports. One is to RBI and another one is to
FD’s. Submission of Report to RBI: RBI made a Form called R-Return Form.
This form is concern with outflows and inflows of Rupee and Net. If any
deposits made by particular cell in any banks and minimum deposit maintained
by this particular cell with RBI. All such information’s are involved in this
Return Form.

This report includes only in value terms not the Number of Transactions.
As per RBI guidelines Mumbai forex cell makes this report with different
currencies whatever they have transacted in a particular period. In the sense
they make report of dollar, pound, yen, euro and any currency they have
transacted in terms of value. And they make it as one and convert it in rupee
terms and submit it to RBI.This report should prepare for every fortnight i.e.,
every 15th and 30th / 31st as the case may be of every month. And for this
submission purpose, RBI has made relaxation period as up to 5 days after that
specified dates. If banks fail to do so they have to pay penalty to RBI, each day,
after that grace period.

Another report is submitted to its FD. Every quarterly they have to

prepare this report. Here they reports about the transaction held in that particular
quarter in terms of Number of transactions and value.

Peak Month
Peak month starts from November and grow fast in December month.
Matures in January to March months. Declines in April and ends with May
month. Why? First reason is RBI. Yes, RBI declares credit rating twice in a
year. This peak is nothing but comes in November month. Many foreigners are

37
observing this credit policy of RBI, after declaration of credit rate by RBI,
accordingly they will ready to trade. So these months are says to be peak
months.

As we know, from June to September is a rain season. Because of this

climatic condition: transportation may delay, storage is main problem, high
protection is require for materials, so many exporters and importers are not
ready to trade in these seasons. They are trade in other than these months. This
also one reason, to say November to May is the peak season for Mumbai Forex
Cell.

Profitable Customers
As already we know that for Mumbai Forex Cell, they have 3 types of
customers’ viz., exporter, importer and remitters. Who are more the beneficial
customers to Bank?

Importer takes the first place among all customers. Because here bank
will get more exchange rate spread. That is differences between buying and
selling rates of particular currency. Here bank and also government are not
bothering about the importer. Means they are not giving any privileges to
importer for importing of materials. So here banks may charge high exchange
rates to importers. Whereas for exporters government is providing some
privileges, because of enjoying some privileges and encouraging the exporters
bank will minimize its profit in way of minimizing the spread rates. So by this
way importers are takes the first place to increase the profits of the banks.

Next place occupied by Remitters. Because these customers are visit the
banks only at once or twice not more than that. For this purpose banks are not
viewing these customers as lifetime customers. So banks will make much profit
from exchange rate spreads.

38
 But exporters are not in the least place. But really these customers are
beneficial customers rather than profitable customers. Of course these
customers are long-term profitable customers.

So every customer is important for bank. Only for giving more privileges
to exporters they seems to be as least profitable customers otherwise they are
also profitable as well as beneficial customers.

SWIFT

Every bank is having Bank Identification Code. By entering this code

only they can operate and open the SWIFT system. SWIFT system is nothing
but sending a message to other bank situated in foreign countries.

If Mumbai Forex Cell sends the messages then they immediately receive
an acknowledgement in printed format. If Mumbai Forex Cell received any
messages from other banks then they have a set of words like “RCVD”, means
received.

This system is already programmed by giving some codes we can operate

it. Like “700” code for L/c, “707” is for Opening of L/c, “707” is for
Amendment of L/c, “103” for Receiving / Paying of Amount, “100”series for
Remittance operated by Single to Single Person, “400” Series for Exporting
transaction.

If bank specify the specific code, then related blank boxes come on the
screen. These boxes are filled by operator, who is a banker and these boxes are
changes according to codes given by banks for specific purposes.

Sometimes SWIFT is also uses for non-financial purpose. Like opening

of L/C and amendment of L/c etc., here we cannot find out any financial

39
transaction. So this is nothing but sending the message to other banks through
Internet media.

Mainly in this format we observe Code Number, Sender’s Name,

Receiver’s Name, Date, Currency, Amount etc., This SWIFT mechanism is
same all over the world. So by this we cannot have a Rupee V/s other currency
exchange rates. This is used for only sending the messages.

Rate Mechanism:
From Mumbai FD only they get the exchange rates of all currencies with cross
currency exchange rates.
Mumbai Internal Forex Department sends exchange rates to all its branches and
cells. This rate is driven by again market Demand & supply. But also some
persons of “Canara Bank International Department” decide the final exchange
rates for their bank. By this only all branches and cells will get the information
about the rates. So it is online connection from International Department to all
its branches and cells.

Here we can see two rates, one is Buying Rate and another one is Selling Rate.
If any customer wants to convert his Dollar into Rupee, then bank goes to the
buy option and buy the dollar and sell the rupee.

Here banks should give the type of transaction. Means whether this transaction
is for remittance purpose or is it for TT or Cheque, or L/c etc., after doing all
these things Mumbai Forex cell submit report to their International Branch.

Sometimes this Mumbai Forex cell chats with its International Division. If
customer is a lifetime customer, then Mumbai cell chats with its International
Division to reduce or to increase the exchange rate in the benefit of customer.
In other words, this cell requests to International Division for changing the

40
exchange rates in the beneficial of customers. So for this purpose only they use
this Chatting option.

Doing all these transaction is nothing but indirectly sending the report to its
International Forex Department. So for this purpose now Mumbai Forex Cell is
having special computer. Recently, in October it was started its operation
through this special computer. By this they can send and receive the message
very fast and easily.

41
RECOMMENDATIONS AND INFERENCES FROM THE
CANARA BANK CASE STUDY

 Canara Bank is one of the good banks in Mumbai city, which provides
almost all facilities to its customers. They had opened a stall in Mumbai
Expo, held in Indira Glasshouse.

 Mumbai is not a major city in forex market like Mumbai. But there are
some players in Mumbai, they trade very cautiously. But some need
training programs, seminars, some knowledge to trade in forex market.

 As per some samples we found it out that, almost all exporters or

importers trades in only currency, i.e., USD. Because of Dollar
depreciation they are in some currency loss. So to avoid this risk or
exposure they can go for currency diversification. For that they require
some guidelines. Anyhow now banks are ready for that.

 Canara Bank, Forex Cell is very cautious regarding the risk arises in
forex market. And they are having some techniques and tools to
minimize those risks. They are in the theory of “Prevention better than
cure”. Means, before causing something now only they are takes some
steps to avoid the adverse effect.

 But Trading Firms are not in the position to recognize the risk. Then
minimizing is secondary. Any how they need some training programs.

 Government is not making any restrictions on forex market. Rather it is

making some help to exporters and also importers (especially those who
are importing of materials for exporting purpose).

42
Recommendation

1. To Bank:

 Now they have a time to conduct some seminars, training

programs of forex market.

 By this they can get some customers or traders.

 And others (i.e., especially companies) will feel, you are

doing social welfare. And they are very happy to close with
you.

 Existing customers will feel proud for their bank and they
are also give some good word of mouth.

 By this you can get more information about: What’s really

customer wants? What we suppose to do for our customers?
What are the troubles for customers? By understanding
what can we provide the service so customer will come to us
very easily?

 So it is recommend to Canara Bank that: “CONDUCT A

SEMINAR OR 15 DAYS TRAINING PROGRAM IN
FOREX MARKET”.

 By this Mumbai also recognize itself in forex market. And

more and more traders will create, because some are hesitate

43
 to export or import the goods, if you made easy then many
traders may ready to come in forex market. All these credit
will goes to Canara Bank.

As a general:

Nevertheless, given this economic verity, it is important that exporters, in

particular, and Indian businesses, in general, recalibrate their position. These
include:

 Consequent to Rupee appreciation, the net earnings of our exporters in

rupee terms would necessarily dip. Exporters need to guard themselves
against anti-dumping investigations that would necessarily follow in this
new paradigm. Accordingly, an exporter has to perhaps conduct a
comprehensive risk analysis of his exports to various countries, taking
into account the probability of facing anti-dumping measures in those
countries, and has to strategies his operations.
 Our businesses need to rework their position in the value chain. As the
Rupee appreciates, exporters must realize that 'brand India' has arrived.
This means we cannot continue to export or produce products at the low
end of the value chain. India, perhaps, needs to import such goods from
other developing countries and concentrate on value-added products. This
is possible as, with the appreciation of the Rupee, newer technologies
become economical and accessible to Indian manufacturers.

44
 Further, the changing paradigm calls for a re-look at domestic markets by
exporters. To aid domestic consumption, the government too has to play
its part. One factor that inhibits domestic consumption is the high
incidence of indirect taxes -- we end up paying 16% to the central
government and another 12.5% as VAT to state governments,
aggregating to approximately 30% or one-fourth of retail prices. This is
one of the highest in the world. Obviously, indirect tax reforms are
crucial to boost domestic consumption.

 Exports of services would apparently be hit due to appreciation of Rupee

and salary levels in this sector may see a dip. But the rise in the intrinsic
value of the Rupee compensates for the same. For instance, an Rs 50 tip
to the waiter may do when Rs 100 would do today. An alternative that
could be explored would be to bill in other currencies, perhaps in Euro,
Yuan or Rupee.
 Another area that requires deep contemplation by the business
community is to re-compute their entire strategy on Special Economic
Zones (SEZs) given these developments. It has to be noted that the
success of the Chinese SEZs was aided and abetted almost close to a
decade by a tightly pegged Yuan to US dollar. The entire economics of
SEZs could undergo a tectonic shift in light of a sustained Rupee
appreciation.
 An appreciating Rupee makes foreign direct investment (FDI) into India
attractive as it hedges such investments from exchange rate depreciation.
On the contrary, it provides a further incentive through capital
appreciation. This once again calls for a comprehensive strategic
positioning to leverage the opportunity -- not only by exporters but even

45
 by others. Obviously, as an investment destination, India and perhaps
China, with their booming stock exchanges and rising currency, could be
the best bet for investments. Of course, one cannot forget investments in
gold and real estate.

FOREX MARKET – INDIAN SCENARIO

The rise in the value of rupee meant that inflation was curbed. The inflation rate
in India declined from 6.73 percent in February 2008 to 4.10 percent in August
2008. Now in end of March 29th 2008 inflation rate went up to 7.41%.

46
 The average daily turnover in the foreign exchange market increased to
US $ 45.9 billion during April-November 2008 from US $ 23.8 billion in the
corresponding period of 2006. While inter-bank turnover increased to US $ 31.9
billion from US $ 17.2 billion, the merchant turnover increased to US $ 14.0
billion from US $ 6.6 billion. The ratio of inter-bank to merchant turnover was
2.4 during April-November 2008 as compared with 2.6 a year ago.

Let us now look at the pros and cons of a rising rupee.

Advantages of the rising rupee:

 Foreign debt service: Appreciation of the rupee helps in easing the
pressure, related to foreign debt servicing (interest payments on debt
raised in foreign currency), on India and Indian companies. With Indian
companies taking advantage of the United States soft interest rate regime
and raising foreign currency loans, known as external commercial

47
 borrowings (ECBs), this is a welcome phenomenon from the point of
view of their interest commitments on the loans raised. This will help
them avoid taking a bigger hit on their bottom-line, which is beneficial
for its shareholders.
 Outbound tourists/student bonanza: The appreciating rupee is a big
positive for tourists traveling or wanting to travel abroad. Considering
that the rupee has appreciated by over 10% against the US dollar since
mid-2002, traveling to the US is now cheaper by a similar quantum in
rupee terms. The same applies to students who are still in the process of
finalizing their study plans abroad. For example, a student's enrollment
for a $1,000 course abroad would now cost only Rs.44,000 instead of the
earlier Rs 49,000!
 Government reserves: Considering that the government has been selling
its stake aggressively in major public sector units in the recent past, and
with a substantial chunk of this being subscribed by FIIs, the latter will
have to invest more dollars to pick up a stake in the company being
divested, thus aiding the governments build up of reserves.

Disadvantages of the rising rupee:

 Exporters' disadvantage: The exporters are at a disadvantage owing to
the currency appreciation as this renders their produce expensive in the
international markets as compared to other competing nations whose
currencies haven't appreciated on a similar scale. This tends to take away
a part of the advantage from Indian companies, which they enjoy due to
their cost competitiveness. However, it must be noted that despite the

48
 sharp currency appreciation in recent times, Indian exports have
continued to grow. This is vindicated from the fact that while in the
month of February 2004, India's exports were higher by 35% over the
same month previous year, in the first 11 months of the current fiscal,
Indian exports have been higher by 15% year-on-year.

 Dollar denominated earnings hurt: The strengthening rupee has an

adverse impact on various companies/sectors, which derive a substantial
portion of their revenues from the US markets (or in dollar
denominations). Software and BPO are typical examples of the
sectors adversely impacted by the appreciation of rupee.

ANALYSIS

Foreign Exchange Risks are all pervasive in all international transactions. Most
of these risks can be mitigated to a certain extent. However there are certain risks
that cannot be mitigated completely. As we saw the number of risks which banks
are facing in the forex market. Risks are uncertainty which lead to financial loss.
And the loss cannot be completely avoided but can be minimized to a certain
extent. There are certain techniques as well as instruments to mitigate and control

49
the risks and exposure. As in the case study of Canara bank we saw that they are
using many instruments to hedge the risks and not one specific instrument. Thus
it is true that the bank uses a combination of instruments to mitigate and hedge
risks.

CONCLUSION

 Now banks are moving towards their core business to other

businesses like mutual fund, stock market and forex market also.

50
 Because of low IRP (Interest Rate Parity) between deposit and
lending.

 Mumbai also one of growing city in Maharashtra. So year on year

new banks are establishing and some existing banks are also ready
to enter into forex market.
 Exposure is there everywhere; Banks are avoiding these exposures
by following some methods and techniques as already told.
 But banks are not having that much of knowledge as for as Forex
Market concern. They required much training and knowledgeable
persons to conduct their business of import / export.
 Some banks, they do not know whether they are in exposure or not.
So it is a time to all banks and especially EXIM bank to conduct
some seminars to all exporters and importers and especially to all
traders of Forex Market situated in Maharashtra
 Therefore from our study we can conclude that banks do not use
any one technique but a combination of techniques for mitigating
forex risk. Thus, our hypothesis has been proved.

Questionnaire:

1. Exports / Imports by:

Your own Branch, or

51
 Head Office / Some other Branch

2. How many times you export / import the materials in a year?

1 to 3 times 7 to 9 times

4 to 6 times More than 10 times

3. In which currency you usually export / import the materials?

USD GBP

EURO If other Specify

If more than one currency gives the weights in % age

4. Mode of Payment

Advance Payment After receipts of Goods/Payment

Bills Collection Letter of Credit

If any other please specify: _____________________

5. What are the risks involved in forex market according to you?

1)_________________________
2) _________________________
3) _________________________
4) _________________________

52
6. What the techniques you are using to minimize these exposures / risks?

Hedging Options Market

Lead or Lags Others, Specify ________________

7. What are the techniques you are using to forecast the exchange rates?
1) _______________________
2) _______________________
3) _______________________
4) _______________________

8. If you have branches in other countries, how you translate the P&L A/c and
Balance Sheet, What are the risks involved in it?
1) ____________________ 2)_______________________

9. How you minimize these exposures / risks?

1) __________________________ 2) ________________________

10. What are the restrictions in forex market by Government or other concerns?

53