Finance Minister Nirmala Sitaraman launched INR-USD Futures and Options (F&O) contracts on the two international exchanges BSE's India INX and NSE's NSE-IFSC at GIFT International Financial Services Centre in Gandhinagar through a video conference.
This launch of the INR-USD Futures and Options (F&O) is extremely useful, as it would help reduce risk and volatility in the Indian currency market.
What is Futures and Options currency contract that is launched?
Futures and options in simple terms is nothing, but, giving one a choice of buying or selling at a future date. So, if you believe that the Indian rupee will fall against the US dollar by November this year, you can buy dollars in the F&O market now, with an expiry in the November F&O contract.
On the other hand, if you believe that the dollar will fall against the rupee, you can sell dollars now, in the November contract. Of course, you do not have to sell or buy it back only by November, but, you can square of your position anytime you make money. We have just given an example of November, but, you can buy contracts that are expiring in June, July and so on.
The question that often arises is: how can we sell dollars, when we do not have any? That is the beauty of the F&O market, where you can sell, without having. What is most important to remember is that if you sell dollars in the November contract, you have to buy it back anytime before the November contract expires, which means you have to square your position.
When you buy shares in the Futures and Options you always buy a lot. For example in the F&O segment of the share market you can buy 1 lot, which can be 1,000 shares or 500 shares.
In the currency market too, you can buy say 1,000 dollars or sell 1,000 dollars. Interestingly, you only have to keep a margin.
What is this margin?
If you were travelling abroad and say needed to physically carry dollars, you would have to pay Rs 75,000 (75 x 1000 dollars), but, in the F&O you pay a margin of say just 10 per cent.
So, you need just Rs 7,500. This is one advantage of the F&O market, where you can buy big quantities with small amount, but, your risk too is high.
What are the advantages of the INR-USD F&O Contracts on BSE, NSE?
To a large extent, it would help reduce volatility. In the past, the RBI has never targeted a particular price of the rupee against the dollar, but, has always emphasized the reduction of volatility.
When we have options to trade in the F&O segment, it would definitely help curb volatility. There have been times in the past when we have seen the rupee falling sharply by almost 10 per cent in a few trading sessions.
Volatility in the currency market, can lead to panic, especially towards Foreign Portfolio inflows into the capital markets. Fortunately, India today has enough and more forex reserves to curb any kind of volatility.