Forex market

1
Forex market Finance for International Trade
2
Foreign Exchange

• International transactions in cash require two
  distinct purchases
• Purchase of foreign currency
• Purchase of good/service with the FC
• The term Foreign Exchange is used to denote
• a foreign currency - ie. currency of another
  country
• the exchange of one currency into another.
• As per FEMA 1999, Foreign exchange includes
• Deposits, credits and balances payable in foreign
  currency
• Drafts, travelers' cheques, letter of credit or
  bill of exchange expressed or drawn in Indian
  currency but payable in foreign country.
• Drafts, travelers' cheques, L/Cs, etc. drawn by
  banks, institutions or persons outside India but
  payable in Indian currency abroad.

3
Foreign Exchange Market

• This market exists to cater to the demand for
  foreign currency.
• Currency is needed around the world for
  international trade and investments.
• The largest financial market in the world,
  trading around 1.5 trillion each day.
• Dynamic high fluctuations in rates.
• round the clock market.
• No central location.
• Over the counter market.
• Trading between participants through electronic
  communication networks (ECNs) and phone networks
• Settlements affected through time zone factor.

4
24 hours Market
Hongkong 2 PM
Tokyo, 3 PM
Hongkong,3 PM
Singapore1 PM
Singapore3 PM
Bahrain 12 noon
Bahrain , 3 PM
London11 AM
London 3 PM
N Y, 10 AM
N Y, 3 PM
L A, 12 N
Tokyo open
L A, 3 PM
Sydney 9 AM
5
Market
6
Market Participants

• Central Banks
• to manage their reserves and the value of their
  home currency.
• Foreign Exchange dealers
• for their retail clients
• hedging and investing their own assets and
  liabilities.
• Investment Funds/Banks
• moving funds from one country to another and
  hedging their investments in various countries.
• Forex brokers
• middlemen between other participants and at times
  taking positions on their books.
• Corporations
• moving funds between different counties and
  currencies for investment or trade transaction.
• Individuals
• ordinary or high net worth individuals for
  investment, trade, persona needs etc.

7
Types of exchange rate

• Spot Exchange Rate
• represent the price that a buyer expects to pay
  for a foreign currency in another currency.
• Settlement in case of spot rate is normally done
  within one or two working days.
• Forward Exchange Rate
• rate that is quoted and traded today but for
  delivery and payment on a specific future date.
• There are two methods of quoting exchange rates
• Direct Quotation
• variable units of home currency equivalent to a
  fixed unit of foreign currency are quoted. (US
  1 Rs. 46.8143)
• Indirect Quotation
• variable units of foreign currency as equivalent
  to a fixed unit of home currency (US 2.1361
  Rs.100)
• After 1993 banks are quoting rates on direct
  basis only.

8
Forward exchange contracts

• A contract between two parties (the Bank and the
  customer). to sell or buy one currency for
  another, at an agreed future date, at a rate of
  exchange which is fixed at the time the contract
  is entered into.
• Foreign Currency Options
• gives the owner the right to buy or sell the
  indicated amount of foreign currency at a
  specified price before a specific date. The buyer
  of option has the right but no obligation to
  enter into a contract with the seller. Therefore
  the buyer of a currency option has the right, to
  his advantage, to enter into the specified
  contract.
• Flexible Forwards
• an alternative to forward exchange contracts and
  currency options. The agreement to exchange a
  specified amount of one currency for another
  currency at a foreign exchange rate that is
  determined in accordance with the mechanisms set
  out in the agreement at an agreed time and an
  agreed date (the expiry time on the expiry
  date).
• Currency Swap
• also known as cross currency swap is a foreign
  exchange agreement between two countries to
  exchange a given amount of one currency for
  another and, after a specified period of time, to
  give back the original amounts swapped.

9
Exchange rate Quotes

• Generally, the Forex rates quoted are spot rates.
• Forward rate Spot rate Premium (- discount)
• If the forward rate is higher than the spot rate,
  the currency is at a premium and if lower, it is
  discount.
• Bid and offered rates
• In USD/INR 46.80/81 the bank is bidding for USD
  at Rs. 46.80 and offering to sell USD at Rs.
  46.81
• Cross rates
• To obtain rates for a particular currency pair
  when they are not available directly
• 1 US Rs. 46.8125 3.7563 Saudi Riyal
• 1SAR 46.8125/3.7563 12.4625

10
Important conventions regarding quotes

• The bid rate always precedes the ask rate.
• E.g Rs./ 46.45 / 46.50
• The bid and ask rates are always separated either
  by slash(/) or (-).
• The quote is always from the bankers point of
  view. Rs./ 46.45 / 46.50
• The banker is ready to buy dollar at Rs. 46.45
  and sell at Rs. 46.50.
• i.e. Bankers buy rate Customers sell rate.
• The Bid is always lower than the ask.
• ask rate- Bid rate spread
• Merchant quote is by bank to its retail
  customers.
• Interbank quote is given by one bank to another
  bank.

11
Rates for different transactions

• TT Selling Rate 
• applied for all clean remittances outside India
  i.e.,
• for selling foreign currency to its customer by
  the bank
• issue of bank drafts, mail/telegraphic transfers
  etc.
• TT Buying Rate 
• for purchase of foreign currency by banks where
  cover is already obtained by banks in India.
• Foreign inward remittances made payable in India
• Bill Selling Rate 
• for all foreign remittances outside India as
  proceeds of import bills payable in India.
• Bills Rate
• for purchase of sight export bills which will
  result in foreign remittance to India after
  realisation.
• Banks also quote different rates for TC and
  Currency.

12
Forward contracts

• There has to be a genuine underlying exposure
  i.e. Forward contracts are permitted only for
  hedging and not for speculation.
• A forward contract can be booked for the
  following
• an inward / outward remittance for export /
  import transactions respectively
• foreign currency loans / bonds - only after RBI
  approval, where necessary, has been obtained
• The currency of hedge and tenor will be the
  customers choice
• Maturity of the hedge should not exceed the
  maturity of the underlying transaction

13
The Mechanics of Import and Export
1st Exporter ships the goods
Importer
Exporter
Importer Preference
2nd Importer pays after goods received
1st Importer pays for goods
Importer
Exporter
Exporter Preference
2nd Exporter ships the goods after being paid
23-13
14
The Trade Dilemma

• The fundamental dilemma of being unwilling to
  trust a stranger in a foreign land is solved by
  using a highly respected bank as an intermediary.
• Following alternatives can be used
• The exporter ships the goods and deliver the
  documents to his Banker along with a Bill of
  exchange.
• The bank through its correspondent abroad
  arranges to deliver the documents of title
  against payment by the importer.
• In the above case, if the instructions are to
  deliver the document against acceptance, an
  accepted bill of exchange will be available to
  the exporter through the bank, which can be
  enforced through court in case of non payment on
  due date.
• The importer opens a Letter of Credit through his
  banker, which is confirmed by a Banker of
  exporters choice.
• Exporter gets the Payment from the bank when the
  documents as mentioned in the Letter of Credit
  are produced to the Bank.
• If the buyer demands open Account terms,
  International Factoring is the solution.

15
Bank - Import/Export Intermediary
1. Importer obtains banks promise to pay
on importers behalf.
Importer
6. Importer pays the bank.
2. Bank promises exporter to pay on behalf
of importer.
Bank
5. Bank gives merchandise to the
importer.
4. Bank pays the exporter.
Exporter
3. Exporter ships to the bank trusting
banks promise.
23-15
16
Documentary Credits

• A Letter of credit is an arrangement at the
  request and on instructions of a customer
• to make payment / authorise other bank to pay or
  negotiate against stipulated documents,
• provided that the terms and conditions are
  complied with.
• It is an undertaking
• issued by the banker of the buyer
• in favour of the Seller
• to pay a certain sum of money
• against presentation of documents
• as called for and
• complying with the conditions laid down in the LC.

17
Triangular Contractual Arrangement
SALE CONTRACT DEFINING TERMS
IMPORTER
EXPORTER
L/C APPLICATION
ADVICE OF OPENING LETTER OF CREDIT
ISSUING BANK
ADVISING BANK
ISSUE OF THE LETTER OF CREDIT
18
Parties to a Letter of Credit

• Applicant (Opener / Importer)
• Issuing Bank
• Beneficiary (Exporter)
• Advising Bank
• Confirming Bank
• Negotiating Bank
• Reimbursing Bank

19
Types of Letter of Credit

• Revocable LC revocable before negotiation of
  documents.
• Irrevocable LC can be revoked or amended with
  consent
• Confirmed Irrevocable LC LC is confirmed by a
  Bank in the exporters Country.
• Transferable LC specifically made transferable.
• Red Clause LC advance payments prior to
  shipment.
• Green Clause LC advance payments after
  warehousing.
• Back-to-back LC Opening LC based on an
  existing LC.
• Deferred Payment LC Payment in installments over
  a period.
• Standby LC An undertaking to pay only in the
  event of non performance by the opener.
• Revolving LC to make the LC available for like
  amount again and again. Payment made replenishes
  the LC amount.
• Restricted LC Negotiation of documents by a
  particular Bank

19
20
Export Finance

• Pre-shipment credit
• for purchase, processing or packing of goods
  meant for exports.
• Packing credit in Rupees and in FC
• Clean Packing Credit
• Post Shipment Credit
• Financial assistance extended after the shipment
  of exports
• Factoring
• Forfaiting

21
Pre shipment finance

• The objectives is to enable the exporter to
• Procure raw materials.
• Carry out manufacturing process.
• Provide a secure warehouse for goods and raw
  materials.
• Process and pack the goods.
• Ship the goods to the buyers.
• Meet other financial cost of the business.

22
Pre shipment finance eligibility

• Issued to exporter who has the export order in
  his own name.
• Also granted to third party manufacturer/
  supplier who do not have export orders in their
  own name.
• A ten digit importer exporter code number
  allotted by DGFT.
• Exporter should not be in the caution list of
  RBI.
• License issued by DGFT if the goods to be
  exported fall under the restricted category.
• If the goods to be exported are not under OGL
  (Open General Licence), the exporter should have
  the required license /quota permit to export
• The exporter would ship the goods and submit the
  relevant shipping documents to the banks within
  prescribed time limit.
• Firm order or irrevocable L/C or original cable /
  fax / telex message exchange between the exporter
  and the buyer.

23
Packing Credit in Foreign Currency

• granted against confirmed order/irrevocable LC
• Export order/LC should be denominated in
  convertible currency
• The rate of interest on PCFC is linked to LIBOR.
• The exporter has freedom to avail PCFC in
  convertible currencies like USD, Pound, Sterling,
  Euro etc.
• Proceeds should be realisable in convertible
  currency
• Exports in ACU currency also eligible.

24
Clean Packing Credit

• Granted to credit worthy parties where advance
  payment is required to be made to the supplier.
• Quantum determined based on the likely purchase
  pattern of the exporter with their suppliers.
• Period of CPC is determined based on the facts of
  each case (but not later than the period of
  contract/LC).
• A higher margin is stipulated
• CPC should be converted as PC or Bills.

25
Post Shipment Finance

• Finance export sales receivable after the date of
  shipment of goods to the date of realization of
  exports proceeds
• Export Bills purchased/discounted.
• Export Bills negotiated
• Advance against export bills sent for collection.
• Advance against export on consignment basis
• Advance against un-drawn balance on exports
• Advance against claims of Duty Drawback

26
Export Credit Guarantee Corporation of India Ltd.
(ECGC)

• Set up in 1957, for the promotion of exports
• To protect the exporters from any financial loss.
• Primary goal of ECGC
• To support strengthen the export promotion
  drive in India by providing a range of credit
  risk insurance covers to exporters against loss
  in export of goods and service also by offering
  guarantee covers to banks and financial
  institutions to enable exporters to obtain better
  facilities from them.

27
ECGC

• Provides credit risk covers to Exporters against
  non payment risks of the overseas buyers /
  buyers country in respect of the exports made.
• Provides credit Insurance covers to banks against
  lending risks of exporters
• Assessment of buyers for the purpose of
  underwriting
• Preparation of country reports

28
RISKS COVERED

• COMMERCIAL RISKS
  
• Insolvency of buyer/LC opening bank
• Protracted Default of buyer
• Repudiation by buyer
• POLITICAL RISKS
• War/civil war/revolutions
• Import restrictions
• Exchange transfer delay/embargo
• Any other cause attributable to importing country

29
Factoring definition

• UNIDROIT (Institut international pour
  lunification du droit prive ) is International
  Institute for the Unification of Private Law.
• UNIDROIT convention on International factoring
  1988 defined factoring as
• The assignment by a supplier of receivables
  arising from contracts of sale of goods made
  between the supplier and its customers to a
  factor, in which the factor is to perform at
  least two of the following functions
• Finance for the supplier
• Maintenance of accounts of the receivables
• Collection of receivables
• Protection against default in payment

30
What is Factoring?

• Factoring is a continuing arrangement between
• a financial institution (THE FACTOR) and
• a business concern (THE CLIENT) selling goods
  or services to
• trade customers (THE CUSTOMER)
• whereby the FACTOR purchases the CLIENTs
  Accounts Receivables / book debts either with or
  without recourse to the CLIENT and administers
  his Sales Ledger.

31
Without recourse

• Credit protection provided by Factors
  involves its undertaking to purchase Book
  debts / receivables, without recourse, to the
  Client.
• Under this service, the Factor assumes the
  risk of default in payment by Customers
  only in case of Customers financial
  inability to pay.
• Under "Without Recourse" arrangement, the Factor
  has to pay to its Clients on the due date of the
  invoice.

32
International Factoring

• Selling international accounts receivable to
  "Factors"
• It is a flexible way of managing trade debts.
• The goods can be sold on open account terms
• Factor provides professional help with credit
  control, debt collection and sales accounting.
• In India, Export Factoring is undertaken by
  Export Factor through an import Factor abroad.
• The Factoring Company (called Factor) undertake
  Export Factoring Activity.

33
Mechanics of Export Factoring - Stage I
INFORMATION
OVERSEAS IMPORTER
INDIAN EXPORTER
LETTER OF INTRODUCTION
INFORMATION
AGREEMENTS
EXPORT FACTOR
IMPORT FACTOR
REQUEST FOR CREDIT COVER
CREDIT COVER
34
Mechanics of Export Factoring - Stage II
OVERSEAS IMPORTER
INDIAN EXPORTER
CONTRACT
CONTRACT
DOCUMENTS
PAYMENTS
FINAL PAYMENT
FOLLOW UP
PRE PAYMENT
E X P O R T D O C U M E N T S
INFORMATION ON EXPORT
EXPORT FACTOR
IMPORT FACTOR
100 PAYMENT
35
Export Factoring Procedure

• The exporter give details of his overseas
  customers to the Export Factor.
• Factor refer the same to Correspondent (Import
  Factor) of that country.
• The Import factor establishes lines of credit for
  each importer after verifying their credit
  standing.
• The credit line will be for the specific amount
  and period as per the terms of sales.
• The Factor fix factoring prepayment limit to the
  exporter who signs a factoring and credit
  protection agreement with the Export Factor.

36
Export Factoring Procedure - 2

• The Exporter
• assign the receivables to the import factor
• Submit the export documents to the Export Factor.
• Export Factor
• send the export documents to the importer.
• makes pre-payment of 80 to 90 per cent of the
  invoice value to the Exporter.
• On due date
• The import factor collects the invoice value and
  remit to the Export Factor.
• Export Factor, in turn makes full payment to the
  exporter.
• Exchange control forms are disposed off.

37
Export Factoring Post Sale Finance

• EXPORT FACTOR
• Dispatch of documents Direct to the Buyer abroad
  in all cases.
• Individual follow up with the buyer in his
  country.
• 100 Credit protection in buyers country.
• Trade disputes not protected.
• Responsibility of collection of receivables with
  the import factor in the buyers country.
• Automatic payment by the import factor after 90
  days from due date.
• Payment from Import Factor fulfills the
  obligations of the exporter.
• Payments from import factor entitles disposal of
  GR forms.

• BANKS
• Despatch thro a bank abroad in most of the
  cases.
• No such follow up
• If ECGC cover is available, part of the risk is
  covered - not 100 .
• Not covered by ECGC also.
• Responsibility is with the exporter.
• Claim to be submitted if ECGC cover is available.
• Claims settled in rupees by ECGC are not export
  realisation in foreign exchange.
• ECGC Payments do not entitle automatic closure
  of GR Form.

38
Maturity Factoring

• The Factor administers the Client's sales
  ledger and renders debt collection service.
• The amount of each invoice is made over to the
  Client at the end of the credit term or on an
  agreed maturity date, less the Factor's charges.
  
•  Such factoring could be with or without
  recourse.
• If it is without recourse, the Client will get
  the amount regardless of whether the invoice is
  paid or not. 

39
Maturity Factoring of ECGC

• Export Credit Guarantee Corporation of India
  Ltd., (ECGC) has a product Without Recourse
  Export Maturity Factoring
• Banks offer Bill discounting facility to
  exporters against maturity Factoring of ECGC.
• Among others ECGC provides the following-

• 100 credit guarantee protection against bad
  debts
• Regular monitoring of outstanding credits,
  facilitating collection on due
  date
• Recovery at its own cost all recoverable bad
  debts.
• In the event of non-realization, payment of
  factored receivables in Rupees, on
  crystallization of dues by the financing
  institution.

40
FORFAITING

• Forfait (French) means relinquish a right.
• The exporter relinquishes his right on a
  receivable which is due at a future date
• in exchange for cash at an agreed discount,
• passing all the risks to the forfaitor.
• It is the discount of international trade
  receivables on without recourse basis.
• Exporter is responsible only for the validity and
  execution of the order. Forfaitor handles the
  rest.
• Normally forfaiting is fixed interest rate and
  medium/ long term (up to 10 years) financing .
• Floating interest quotes are also available.
• Debt is evidenced by Bills of Exchange,
  Promissory Note, Letter of Credit, or Letter of
  guarantee.

41
Steps in forfaiting

• The importer requests credit terms.
• The exporter approaches a forfaiter to know his
  willingness to provide this credit and the costs.
• The forfaitor needs the following information
• The country of the importer
• The importer's name
• The type of goods
• The value of the goods
• The expected shipment date
• The repayment terms sought by the importer
• Name of the importers banker ready to guarantee
  his obligations

42
Steps

• The forfaiter indicates the costs involved.
• No commitment at this stage.
• The exporter negotiates with the importer.
• The exporter asks the forfaiter for a commitment
  to purchase the debt obligations (bills of
  exchange, promissory notes etc) created under the
  transaction.
• The forfaiter issues a commitment which, when
  accepted by the exporter, is binding on both
  parties

43
Steps 3

• The commitment of forfaiter contain the
  following
• Details of the underlying commercial transaction.
• Nature of the debt instruments to be purchased.
• The discount (interest) rate and other charges.
• The documents required in order to be satisfied
  that the debt being purchased is valid and
  enforceable
• The latest date that the exporter can deliver
  these documents to the forfaiter
• The exporter signs the commercial contract with
  the importer and delivers the goods.

44
Steps..4

• The importer obtains a guarantee from his bank
  and provides the required documents for
  forfaiting
• This exchange of documents is usually done by a
  bank, through a Letter of Credit.
• The exporter delivers the documents to the
  forfaiter who pays for them as agreed in the
  commitment
• The exporter has no further interest in the
  transaction.
• The forfaiter collects the future payments due
  from the importer and runs all the risks of
  non-payment.

45
Forfaiting
2 Commercial Contract
Importer
3 Delivery of goods
Exporter
5 hands over documents.
1 COMMITMENT QQTO PURCHASE
9REPAYS AT MATURITY
6 DELIVERS DOCUMENTS
7PAYS CASH
4 GIVES GURANTEE
8. Presents documents for Payment.
Bank
Forfaiter
46
Avalisation

• means unconditional and irrevocable obligation
  to pay
• In forfaiting, the importers bank avalise the
  debt instrument.
• The instrument is a Promissory Note, Bill of
  Exchange or Deferred Payment LC or a Letter of
  Guarantee.
• By endorsing the bill on the back, the bank
  commits itself unconditionally to pay should the
  drawee default.
• An "avalised" bill substitutes the importers risk
  by the banks risk.
• The bill is stamped with wording such as "Pour
  Aval" and signed by a representative of the bank

47
Role of Authorised dealer in India

• Forfaiting has been approved by RBI in 1992.
• Scheme available for transactions of gtUS 1-00
  lakhs.
• The facility provided by international Forfaitor
  through an AD, called (Facilitator).
• The facilitator
• gets the quotes from the Forfaitor
• handles the documents.
• Arranges contract with the Forfaitor.
• Gets Exporters endorsements on the avalised
  instrument if any.
• Forwards the avalised instrument to the
  Forfaitor.
• Collects the payment form the Forfaitor.
• makes payment to the exporter
• dispose off the GR form.

48
RBI Regulations

• Net amount received by the exporter should not be
  less than the amount realised if goods were
  exported on cash basis- the export amount is to
  be structured for this purpose.
• Commitment charge not to exceed 1.5 of contract
  value.
• Pass all charges to the importer to the extent
  possible.
• Forfaiting proceeds are to be received in India
  immediately after shipment but in any case before
  180 days.
• Commitment charges need not be mentioned in
  Export Declaration Form, but discount charges to
  be entered in the Export Declaration form and the
  shipping bill.
• AD provides customs certificate for Export
  declaration form purposes.

49
Advantages

• Converts credit sales to cash sales.
• Finance up-to 100 of the contract value
• Predetermined costs.
• Free from risk credit, political transfer.
• Simple documentation.
• Saves cost of export insurance.
• Do not affect other limits with the Bank.
• Diversify business across the borders.
• Can export to even listed countries without risk.
• Speed Commitments within hours or days
  depending on details and country.

50
Forfaiting is suitable for

• High value exports
• Capital goods
• Consumer durables
• Vehicles
• Consultancy and construction contracts.
• Project exports
• Bulk commodities

51
Cost of Forfaiting

• Briefly, the cost is made up of
• A charge for the money to cover the the
  Forfaiter's refinancing costs, calculated on the
  LIBOR (London Interbank Offer Rate) rate
  applicable to the average life of the
  transaction.
• A charge for covering the political, commercial,
  and transfer risks attached to the
  avalor/guarantor
• Additional costs include a "days of grace"
  charge and when necessary, a commitment fee.
  LIBOR.
• Commitment charges from the date the forfaitor is
  committed to undertake the forfaiting till the
  date of discounting may range from 0.5 to
  1.5 pa
• Documentation fee
• Facilitation fee for the Bank acting as
  facilitator.

52
Factoring Vs Forfaiting
Forfaiting
Factoring
Mostly international
Mostly domestic
Mostly capital goods
Consumer goods etc
Longer period
Short term
Payment in installments
single payment
Forfaitor comes first.
Comes after contract
Single transaction
Continuous relationship
available
No secondary market
bank guarantees etc.
Supported by invoices only
53
Products for Forfaiting
Construction equipments
Infrastructure
Machineries
Truckss