Online Currency Trading Account
Before we explain the concept of a currency pair & a currency futures contract, we would like to give information regarding the currency market and how one can participate in them.
Currency pairs are traded only on 3 exchanges in India. The NSE (National Stock Exchange), BSE (Bombay Stock Exchange) and the MCX-SX (Multi-Commodity exchange) offer the service of currency trading or FOREX trading as is called more commonly. The market in India is open from 9.00 am to 5.00 pm (5 days of the week barring Saturday and Sunday).
The participants eligible to trade Currency contracts are:
- All Resident Indians (NRIs are not allowed)
- Companies and Institutions (Banks and Export/Import companies)
- Legal/Natural Guardian can open an account in the name of a minor
Requirements (& Documents) to participate in the markets:
- Resident Foreign Currency (Domestic) Account with a Broker (usually better than a bank as intermediary due to the software and competitive brokerage that you receive)
- Valid Identity Proof to open RFC (Domestic)
- Valid Address Proof for the same
Features of a top broker in Currency Trading are:
- Should be a Licensed Broker of at least 2 of the 3 exchanges that offer currency trading
- Technical charts with all the basic indicators
- Easy to use software: Can be used on Tablets, Laptops and Mobile Phones
- Fast Pay-in and Pay-out mechanism
- Best Brokerage and competitive margin options
Understanding a Currency Pair and Currency Futures Contract:
When we talk of trading in the currency market we are essentially talking about trading a currency pair future contract. So if you notice, currency trading has two components to it. First, which currency pair is traded and second, what is a futures contract exactly? We shall explain both of these components here.
When we speak of currency trading or using currency pair to hedge our investments that are exposed to a currency risk, we are speaking about the relative rate differential between two currencies. In currency trading one can only trade a pair i.e. speculate on the movement of one currency versus the other currency. In India there are only 4 pairs that are traded. Those are the USD/INR, EUR/INR, POUND/INR & YEN/INR.
All traders should understand that the value of a currency is a rate, when compared against another currency. Without the other currency, the first would not have a value. Currencies only derive a rate when in comparison with another currency.
The pair always comprises of the base currency and the quoted currency. A simple trick to understand which the base currency is and which the quoted currency is: Let’s take USD/INR for instance, the first currency in written form (the numerator) is the base currency and second is the quoted currency. This means the base currency is USD and the quoted currency is the INR. The currency pair determines how much of the quoted currency is needed to purchase a unit of the base currency. So if the USD/INR is at 68.3, this means that INR 68.3 is needed to purchase 1 USD.
So when we talk of the 4 currencies traded in India, the following are the base and quoted currencies given below:
- USD/INR: USD is the base currency and INR is the quoted
- EUR/INR: EUR is the base currency and INR is quoted
- POUND STERLING/INR: Pound Sterling is the base currency and INR is the quoted
- YEN/INR: Yen is Base Currency and INR is the Quoted Currency
Always remember, the currency pair determines how many units of the quoted currency are required to purchase 1 unit of the base currency.
Currency Pairs can be traded as a single instrument. When you buy a USD/INR pair at 68.1, for instance, this means that for you have to sell INR 68.1 to purchase 1 USD. Conversely, if you sell the USD/INR pair this means you have received 68.1 INR for every 1 USD sold.
Currency Futures Contract:
To understand the trading in a practical manner, let us first explain the Futures Contract for the currency pair. A future contract for the currency pair is quite similar to that of the Equity and Currency Markets. The components present in the future contract of Currency are the following:
|1.||Lot Size||1000 USD; So if you sell a contract you in effect have shorted 1000 USD clearly speculating a drop in the value of USD or appreciation of INR.|
|2.||Underlying||The Underlying asset is the INR price per USD or the Rate of the Indian Rupee against the USD.|
|3.||Tick Size||This represents the minimum movement that can occur on the price chart. In a future contract the tick size is INR 0.0025. The trader will gain or lose INR 2.50 per tick.|
|4.||Expiry Cycle||Unlike Equities that offer only 3 months cycles, Currency Futureshave a cycle of 12 months.|
|5.||Final Settlement Day||Last working day of every month|
|6.||Margin||SPAN + EXPOSURE MARGIN – Usually span is around 1.5% and exposure margin is 1%. So the overall margin required to trade 1 lot is close to 2.5% of the contract turnover|
|7.||Settelement Price||As per the RBI Reference Rate on the day of the final settlement.|
Now let’s understand a practical example. Suppose we purchase a contract of the USD/INR pair at 68.10. Firstly, let me clarify that we have done so for either of the following two reasons. Either we want to gain from the trade by speculating an appreciation in the value of the USD (a consequent depreciation of the INR) or we are looking to hedge our stock or commodity portfolio that has a currency risk of a weaker rupee. Either way, if we close the trade at 69.15, then we stand to gain INR 50 per contract.
We hope the concept on Online Currency Trading has been simplified to a certain extent for the reader. Our main aim to present this information to you was that the reader understands the concept of currency trading, the requirements to trade currency futures as well as the tools used for currency trading.
Obviously, linked to these contracts there are Currency Option contracts too. They have many characteristics that are similar to the equity options contracts. Once you have understood the basics of the currency futures and have an understanding of stock options, then it won’t take long to understand the concept of currency options.
Note: For an active trader or hedger it is important to note that the liquidity in the USD/INR pair is the highest (there are ample bids & offers to execute the trade). Trading other pairs such as the YEN/INR, EUR/INR and the POUND ST/INR could be a little problematic for the active traders who prefer getting in and out of trades fast.