International Finance

International finance is the branch of economics that studies the dynamics of foreign exchange,foreign direct investment and how these affect international trade. Also studies the international projects, international investment and the international capital flow .International Finance can be broadly defined, as the study of the financial decisions taken by a multinational corporation in the area of international business i.e. global corporate finance. International finance draws much of its background from the preliminary studies in the topics of corporate finance such as capital budgeting, portfolio theory and cost of capital but now viewed in the international dimension.

Foreign exchange risk management by banks

Exchange Dealings

When the foreign currency denominated assets and liabilities are held, by the banks or the business concern, two types of risks are faced. Firstly, the risk that the exchange rates may vary and the change may affect the cash flows/profits. This is known as exchange risk. Secondly, the interest rate may vary and it may affect the cost of holding the foreign currency assets and liabilities. This is known as interest rate risk. The present section discusses exchange risk management by banks.

Dealing Position

Foreign exchange is such a sensitive commodity and subject to wide fluctuations in price that the bank which deals in it would like to keep the balance always near zero, The bank would endeavour to find a suitable buyer wherever it purchase so as to dispose of the foreign exchange acquired and be free from exchange risk.… Read the rest

Abey Francis

Cancellation and Extension of Forward Exchange Contracts

The customer may approach the bank for cancellation when the underlying transactions becomes infructrious, or for any other reason he wishes not to execute the forward contract. If the underlying transaction is likely to take place on the day subsequent to the maturity of the forward contract already booked, he may seek extension in the due date of the contract. Such requests for cancellation or extension can be made by the customer on or before the maturity of the forward contract.

Cancellation on Due Date

When the forward purchase contract is cancelled on the due date, it is taken that the bank purchases at the rate originally agreed and sells the same back to the customer at the ready TT rate.… Read the rest

Abey Francis

Booking of Forward Exchange Contracts and Exchange Control Regulations

Forward exchange contract is a device which can afford adequate protection to an importer or an exporter against exchange risk. Under a forward exchange contract a banker and a customer or another banker enter into a contract to buy or sell a fixed amount of foreign currency on a specified future date as a predetermined rate of exchange. Our exporter, for instance, instead of groping in the dark or making a wild guess about what the future rate would be, enters into a contract with his banker immediately. He agrees to sell foreign exchange of specified amount and currency at a specified future date.… Read the rest

Abey Francis

Definition of Currency Arbitrage

Arbitrage traditionally has been defined as the purchase of assets or commodities on one market for immediate resale on another in order to profit from a price discrepancy. In recent years however arbitrage has been used to describe a broader range of activities. The concept of arbitrage is of particular importance in International finance because so many of the relationships between domestic and international financial markets, exchange rates, interest rates and inflation rates depend on arbitrage for their existence. In fact it is the process of arbitrage that ensures market efficiency.

The purchase of currencies on one market for immediate resale on another in order to profit from the exchange rate differential is known as currency arbitrage.… Read the rest

Abey Francis

Currency Swap Deals in Foreign Exchange Markets

Swap contracts can be arranged across currencies. Such contracts are known as currency swaps and can help manage both interest rate and exchange rate risk. Many financial institutions count the arranging of swaps, both domestic and foreign currency, as an important line of business. This method is virtually cheaper than covering by way of forward options. Technically, a currency swap is an exchange of debt service obligations denominated in one currency for the service in an agreed upon principal amount of debt denominated in another currency. By swapping their future cash flow obligations, the counterparties are able to replace cash flows denominated in one currency with cash flows in a more desired currency.… Read the rest

Abey Francis

Fixed and Option Forward Contracts and it’s computation

Under the fixed forward contract the delivery of foreign exchange should take place on a specified future date. Then it is known as ‘fixed forward contract’. Suppose a customer enters into a three months forward contract on 5th January with his bank to sell Euro 15,000, then the customer would be presenting a bill or any other instrument on 7th April to the bank for Euro 15,000. The delivery of foreign exchange cannot take place prior to or later than the determined date.

Though forward exchange is a mechanism wherein the customer tries to over come the exchange risk, the purpose will be defeated if the delivery of foreign exchange does not take place exactly on the due date.… Read the rest

Abey Francis