Risk Diversification Trading

Risk Diversification Trading

The majority of Indian corporates have at least 80% of their foreign exchange transactions in US Dollars. This is wholly unacceptable from the point of view of prudent Risk Management. "Don't put all your eggs in one basket" is the essence of Risk Diversification, one of the cornerstones of prudent Risk Management.

Disadvantages of $-Rupee	Advantages of Major currencies
1. The very nature or structure of the $-Rupee market can be harmful because it is small, thin and illiquid. Thus, dealer spreads are quite wide and in times of volatility, the price can move in large gaps	1.By diversifying into a more liquid market, such as Euro-Dollar, the risk arising from the Structure of the Indian Rupee Market can be hedged
2. Impacted in full by the Trend of the market. For instance, if the Rupee is depreciating, its impact will be felt in full by an Importer	2. Trends in one currency can be hedged by offsetting trends in another currency. Refer to graphs and calculations below.
3.Dollar-Rupee, in particular, brings the following risks: 1) Lack of Flexibility...Payables once covered cannot be cancelled and rebooked 2) Unpredictability...Dollar-Rupee is not a freely traded currency and hence extremely difficult to predict. The normal tools of currency forecasting, such as Technical Analysis are best suited to freely traded markets 3) Lack of Information...Price information on Dollar-Rupee is not freely available to all market participants. Only subscribers to expensive "quote services" can get accurate information	3. These constraints do not apply in the case of the Major currencies: 1) Flexibility...Hedge contracts in Euro-Dollar or Dollar-Yen etc. can be entered into and squared off as many times as required 2) Predictability...the Majors are much more predictable and liquid than Dollar-Rupee and hence Entry-Exit-Stop Loss can be planned with ease, accuracy and effectiveness 3) Free Information...The Internet provides LIVE and FREE prices on these currencies.
4.$-Rupee rose 2.35% from mid-June to 11th Aug.	4.Euro-Rupee fell 4.63% over the same period
5.· An Importer with 100% exposure to USD, saw its liabilities rise from a base of 100 to 102.35	5.An Importer with 25% exposure to the Euro saw its liability rise from a base of 100 to only 100.60

            Even if a Corporate does not have a direct exposure to any currency other than the USD, it can use Forward Contracts or Options to create the desired exposure profile. Thankfully, this is permitted by the RBI. This is not Speculation. It is prudent, informed and proactive Risk Management.

            As seen, the bad news is that Dollar-Rupee volatility has increased. The good news is that forecasts can put you ahead of the market and ahead of the competition.

            If you look at the chart below you will observe, Dollar-Rupee volatility has increased from 5 paise per day in 2004 to about 20 paise per day today. It is set to increase further, to 35-45 paise per day over the next 12 months.

            Now the question here is, how do you protect your business from Forex volatility? Just need to track the Market every moment and by any dealer’s forecasts. They help keep you on the right side of the market. They have an enviable track record (look at the chart on the right hand top) to back up profits from high volatile market. Take the services of many FX-dealers that include long-term forecasts, daily updates as well as hedging advice for the corporates.