Workbook for Currency Derivatives Certification Examination

1 1 Workbook for NISM-Series-I: Currency Derivatives Certification Examination national Institute of Securities Markets 2 This Workbook has been developed to assist candidates in preparing for the national Institute of Securities Markets (NISM) NISM-Series-I: Currency Derivatives Certification Examination (NISM-Series-I: CD Examination ). Workbook Version: December 2011 Published by: national Institute of Securities Markets national Institute of Securities Markets, 2011 Plot 82, Sector 17, Vashi Navi Mumbai 400 705, India All rights reserved. Reproduction of this publication in any form without prior permission of the publishers is strictly prohibited. 3 Disclaimer The contents of this publication do not necessarily constitute or imply its endorsement, recommendation, or favoring by the national Institute of Securities Market (NISM) or the Securities and Exchange Board of India (SEBI).

2 This publication is meant for general reading and educational purpose only. It is not meant to serve as guide for investment. The views and opinions and statements of authors or publishers expressed herein do not constitute a personal recommendation or suggestion for any specific need of an Individual. It shall not be used for advertising or product endorsement purposes. The statements/explanations/concepts are of general nature and may not have taken into account the particular objective/ move/ aim/ need/ circumstances of individual user/ reader/ organization/ institute. Thus NISM and SEBI do not assume any responsibility for any wrong move or action taken based on the information available in this publication.

3 Therefore before acting on or following the steps suggested on any theme or before following any recommendation given in this publication user/reader should consider/seek professional advice. The publication contains information, statements, opinions, statistics and materials that have been obtained from sources believed to be reliable and the publishers of this title have made best efforts to avoid any errors. However, publishers of this material offer no guarantees and warranties of any kind to the readers/users of the information contained in this publication. NISM and SEBI do not warrant the totality and absolute accuracy, adequacy or completeness of the information and material and expressly disclaim any liability for errors or omissions in this information and material herein.

4 NISM and SEBI do not accept any legal liability what so ever based on any information contained herein. While the NISM Certification Examination will be largely based on material in this Workbook , NISM does not guarantee that all questions in the Examination will be from material covered herein. 4 About NISM In pursuance of the announcement made by the Finance Minister in his Budget Speech in February 2005, Securities and Exchange Board of India (SEBI) has established the national Institute of Securities Markets (NISM) in Mumbai. SEBI, by establishing NISM, has articulated the desire expressed by the Indian government to promote securities market education and research. Towards accomplishing the desire of Government of India and vision of SEBI, NISM has launched an effort to deliver financial and securities education at various levels and across various segments in India and abroad.

5 To implement its objectives, NISM has established six distinct schools to cater the educational needs of various constituencies such as investor, issuers, intermediaries, regulatory staff, policy makers, academia and future professionals of securities markets. NISM brings out various publications on securities markets with a view to enhance knowledge levels of participants in the securities industry. NISM is mandated to implement Certification examinations for professionals employed in various segments of the Indian securities markets. 5 Acknowledgement This Workbook has been developed by NISM in close cooperation with the Examination Committee for NISM-Series-I: Currency Derivatives Certification Examination (NISM-Series-I: CD Examination ) consisting of representatives of Securities and Exchange Board of India (SEBI), United Stock Exchange (USE), national Stock Exchange (NSE), MCX Stock Exchange (MCX-SX) and Foreign Exchange Dealers Association of India (FEDAI).

6 NISM gratefully acknowledges the contribution of all committee members. About the Author This Workbook has been developed for NISM by Mr. Amit Singhal, Founder & CEO, Cube Edugains Pvt. Ltd. Parts of the content of this Workbook have been provided by BSE, NSE and MCX-SX. NISM is grateful for their contribution. 6 About the NISM-Series-I: Currency Derivatives Certification Examination The Examination seeks to create a common minimum knowledge benchmark for persons working in the Currency derivative segment, in order to enable a better understanding of Currency markets and exchange traded Currency Derivatives products, better quality investor service, operational process efficiency and risk controls. Examination Objectives On successful completion of the Examination the candidate should: Know the basics of Currency markets and specifically Exchange Traded Currency Derivatives markets.

7 Understand the trading, clearing and settlement mechanisms related to Exchange Traded Currency Derivatives markets and basic investment strategies that use Currency futures and options products. Know the regulatory environment in which the Exchange Traded Currency Derivatives markets operate in India. Assessment Structure The NISM-Series-I: Currency Derivatives Certification Examination (NISM-Series-I: CD Examination ) will be of 100 marks consisting of 100 questions of 1 mark each, and should be completed in 2 hours. There will be negative marking of 25% of the marks assigned to each question. The passing score for the Examination is 60%. How to register and take the Examination To find out more and register for the Examination please visit 7 Table of Contents Chapter 1: Introduction to Currency Markets.

8 Brief history of foreign exchange markets .. Major Currency pairs .. Overview of international Currency markets .. Basics of Currency markets and peculiarities in India .. Settlement date or Value date .. OTC forward market .. Exchange rate arithmetic - cross rate .. Impact of market economics on Currency prices .. Economic indicators .. 22 Chapter 2: Foreign Exchange Derivatives .. Derivatives - Definition .. Derivative products .. Growth drivers of Derivatives .. Market players .. Key economic function of Derivatives .. Financial market stability: Exchange-traded vs. OTC Derivatives .. 27 Chapter 3: Exchange Traded Currency Futures .. Currency futures - Definition .. Futures terminology .. Rationale behind Currency futures.

9 Distinction between futures and forward contracts .. Interest rate parity and pricing of Currency futures .. 32 Chapter 4: Strategies Using Currency Futures .. Market participants .. Computing payoffs from a portfolio of futures and trade remittances .. Using Currency futures for hedging various kinds of FX exposures .. Use of Currency futures by speculators and arbitrageurs .. Use of Currency futures by arbitrageurs .. Trading spreads using Currency futures .. Limitations of Currency futures for hedgers .. 428 Chapter 5: Trading in Currency Futures .. Currency futures contract specification .. Other terminologies with respect to contract specifications .. Trader workstation screen (TWS) .. Entities in the trading system .. Types of orders.

10 Price Limit Circuit Filter .. Rules, regulations and bye laws of Exchange .. 47 Chapter 6: Clearing, Settlement and Risk Management in Currency Futures .. Clearing vs. Settlement .. Clearing entities .. Clearing mechanism .. Regulatory guidelines on open position limits .. Settlement mechanism .. Risk management measures .. Margin requirements .. Mark-to-Market Settlement .. Margin collection and enforcement .. Periodic Risk Evaluation Report .. Surveillance .. Unique Client Code (UCC) .. 60 Chapter 7: Exchange Traded Currency Options .. Options Definition, basic terms .. Difference between futures and options .. Options in financial market .. Style of options .. Moneyness of an option .. Basics of option pricing and option Greeks.