 Foreign Exchange Market is an inter-bank market that took

shape in 1971.

 This is a set of transactions among forex market agents

involving exchange of currency.

 The exchange rate of one currency to another currency

is determined simply: by supply and demand.

 As in the rest of the world, in India too, foreign

exchange constitutes the largest financial market by far.

 Another essential feature of the FOREX market, is its

STABILITY.
 BANKS:
Inter banks market is at the top in forex trading. Inter-bank
market accounts 53% of total transaction of the forex.

 COMMERCIAL COMPANIES
Commercial companies play an important role in the
forex market. They do participate in forex trading.

 CENTRAL BANK
The central bank RBI (India) plays an important role in
the forex market.
 HEDGERS

 SPECULATORS
Another class of market participants involved with foreign exchange-related
transactions is speculators .

 IMPORTERS
Who may need to purchase their supplier’s domestic currency to pay for the
goods he has supplied.

 EXPORTERS
Who may be paid a foreign currency by an overseas purchaser, and who need to
convert it into his or her own currency.

 TOURISTS
Who often purchase foreign currency, traveler’s cheques and bank notes, prior to
visiting an overseas country.
 Liquidity: The market operates the enormous money supply and
gives absolute freedom in opening or closing a position in the
current market quotation. .

 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.

 Value: The Forex market has traditionally incurred no service

charges, except for the natural bid/ask market spread.
Foreign exchange risk is the risk that the exchange rate will change
unfavorably before the currency is exchanged. Foreign exchange
risk is linked to unexpected fluctuations in the value of currencies.
Exposure is defined as a contracted, projected or
contingent cash flow whose magnitude is not certain at the
moment and depends on the value of the foreign exchange
rates.

There are mainly three types of foreign exchange exposures:

Translation exposure

Transaction exposure

Economic Exposure
 Translation Exposure
 It is the degree to which a firm’s foreign currency denominated financial
statements is affected by exchange rate changes.
 If a firm has subsidiaries in many countries, the fluctuations in
exchange rate will make the assets valuation different in
different periods
 The changes in asset valuation due to fluctuations in exchange
rate will affect the group’s asset, capital structure ratios,
profitability ratios, solvency ratios.
 Translation exposure = (Exposed assets - Exposed
liabilities)*(change in the exchange rate)
 Transaction exposure
 This exposure refers to the extent to which the future value of firm’s
domestic cash flow is affected by exchange rate fluctuations.
 The degree of transaction exposure depends on the extent to
which a firm’s transactions are in foreign currency
 Economic Exposure
Economic exposure refers to the degree to which a firm’s present
value of future cash flows can be influenced by exchange rate
fluctuations.
Economic exposure to an exchange rate is the risk that a variation in
the rate will affect the company’s competitive position in the
market and hence its profits.
OTHER RISKS :
Country Risk
Exposure to potential loss or adverse effects on company
operations and profitability caused by developments in a
country‘s political or legal environments.
 Cross Cultural Risk
A situation or event where cultural miscommunication puts some
human value at stake.
 Commercial Risks
Exposure to market preferences and sentiments. This relates
to establishing credibility and taking much more trouble to
settle down than the home- grown company
 Currency Risk
Change in foreign exchange rates may result in huge amount
of losses for an MNC. Thus this is again a risk, which needs
to be tackled
Once a firm recognizes its exposure then it has to deploy
resources in managing it.
Forecasts: After determining its exposure, the first step for a firm is
to develop a forecast on the market trends the main direction/trend
is going to be on the foreign exchange rate typically for 6 months.
Risk Estimation: Based on the forecast, a measure of the Value
at Risk and the probability of this risk should be ascertained.
Benchmarking: Given the exposures and the risk estimates, the
firm has to set its limits for handling foreign exchange exposure
on a cost centre or profit centre basis.
Hedging: Based on the limits a firm set for itself to manage
exposure, the firms then decides an appropriate hedging
strategy.
 Stop Loss: The firms risk management decisions are based
on forecasts of reasonably unpredictable trends. It is
imperative to have stop loss arrangements in order to
rescue the firm if the forecasts turn out wrong
 Reporting and Review: Risk management policies are
typically subjected to review based on periodic reporting.
A derivative is a financial contract whose value is derived from the
value of some other financial asset, such as a stock price, a
commodity price, an exchange rate, an interest rate, or even an index
of prices.
The instrumrents used are :
Forwards

Futures

Options

Swaps

Foreign Debt
 Foreign exchange market plays a vital role in
integrating the global economy.
 It is a 24 hour in over the counter market
made up of many different types of players.
 With the LPG initiated in India, Indian Forex
Market have been reasonably liberated to
play there efficiently.
 Derivative instrument are very useful in
managing these risks.