CCIL to guarantee currency forwards from December

As with the currency futures market, over the counter market (OTC) instruments, known as currency forwards, will also get the benefit of guaranteed settlement. Clearing Corporation of India (CCIL) is commencing guaranteed settlement of forward forex trades from December 1.

Bank-to-bank forward deals would be covered under this arrangement and CCIL is setting up a dedicated default fund, for which participating entities shall have to pay margins and contribution to this fund as prescribed by the corporations.

The corpus of the fund will be utilised in case of default as happens in case of stock exchanges.

Currency forward contracts are agreements between two parties, usually banks, one which will receive payment of currency at a future date at pre-agreed price or exchange rate and the other which will deliver the currency at an agreed rate.

Future delivery contracts are quoted at premium known as forward premiums. Currency futures were launched in August 2008 and have picked up pace in a year.

According to data compiled by the Securities and Exchange Board of India (Sebi), in November 2008, the futures’ market share as a percentage of OTC market turnover was 7.19 per cent, which had gone up to 59.6 per cent in August 2009, up to which data was available.

In August 2009, monthly volume in OTC market was $62.6 billion, while currency futures volume was $37.32 billion. However volumes in the OTC market are falling since the beginning of last year’s financial crisis.

Even premiums in the currency forward market and futures market have aligned to a large extent indicating efficiency of the market, said a Sebi source. This alignment is due to arbitrage between the two markets.

He said currency futures are increasingly used by retailers as well as non-bank participants who are generally small firms and traders.

The only problem in the currency futures market is that it cannot result in delivery and liquidity in futures confined to one or two months. Hedging for a longer time frame is not easy on the currency futures market.