The
risk on account of exchange rate fluctuations, in international trade
transactions increases if the time period needed for completion of transaction
is longer. It is not uncommon in international trade, on account of logistics,
the time frame cannot be foretold with clock precision. Exporters and importers
alike, cannot be precise as to the time when the shipment will be made as
sometimes space on the ship is not available, while at the other, there are
delays on account of congestion of port etc.
In
international trade there is considerable time lag between entering into a
sales/purchase contract, shipment of goods, and payment. In the meantime, if
exchange rate moves against the party who has to exchange his home currency
into foreign currency, he may end up in loss. Consequently, buyers and sellers
want to protect them against exchange rate risk. One of the methods by which
they can protect themselves is entering into a foreign exchange forward
contract.
Risk
Management From Exporter’s Point Of View
If
on the 1st January
2000 exporter signs an export contract. He expects to get the
dollar remittance during the June. Now let’s assume that on first January
exchange rate between dollar and rupee is 48.7500 and due to the adverse
fluctuation of exchange rate the actual rate in June is 48.500 so we can infer
from the above that the export may loose 24 paise per dollar. As per instrument
available in India
exporter may enter a forward exchange contract with a bank. While entering the
contract with bank, bank will give him a forward rate for June adding the
premium to the spot rate of first January. Let suppose it is 48.8400 so
exporter can earn 9 paise my exchange rate between dollar and rupee is 48.7500
and due to the adverse fluctuation of exchange rate the actual rate in June is
8.5000 so we can infer from the above that the export may loose 24 paise per
dollar. As per instrument available in India exporter may either a forward
exchange contract with a bank. While entering the contract with bank, bank will
give him a forward rate for June adding the premium to the spot rate of first
January. Let suppose it is 48.8400 so exporter can earn 9 paise may cancel and
rebook the contract as many as times they want.
Importer’s Point Of View
Let suppose on first January an
importer signs a deal with foreign party. He expects to pay the bill in March
on first January the exchange rate is 457500 and the importer expects that the
dollar will depreciate in the month of March. So the importer will enter into
the agreement with bank for the forward exchange contract. The bank will give
him the forward rate. If the rate is lower than the today’s rate then the
importer will enter into the contract with bank and the rate is high then he
will not enter into the contract.
In India importers cannot cancel the
contract. They can cancel the contract at once and roll over for the future
date. This way importers and exporters can minimize the risk due to the adverse
foreign exchange rate movement.
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