5/6/2022

LEARNING OUTCOMES

❖Understand the characteristics of the

forward market, future markets and options

Chapter 3 markets.
❖Use forward, future and option contracts to
hedge or speculate

Lecturer: Dr. Tien Trung, Nguyen

1 Lecturer: Dr. Tien Trung, Nguyen

CURRENCY DERIVATIVES Base and Quote currencies

FORWARD MARKET

CURRENCY FUTURES MARKET

3.

CURRENCY OPTIONS MARKET

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen
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1. FORWARD MARKET 1. FORWARD MARKET

The forward market facilitates the trading of forward ❖The parties are bound by the contract and are
contracts on currencies. A forward contract is an responsible for fulfilling their contractual obligations
agreement between a corporation and a commercial ❖The most common forward contracts are for 30,
bank to exchange a specified amount of a currency 60, 90, 180, and 360 days, although other periods
at a specified exchange rate (called the forward (including longer periods) are available
rate) on a specified date in the future

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

1. FORWARD MARKET 1. FORWARD MARKET

Forward Rate: Forward Rate:

➢Formula to calculate bid rate (tỷ giá MUA):
- Used to lock in exchange rate at which they can buy or
R − R2 
Fb = Sb + Sb  1
sell foreign currencies.
n
- It depends on:  N 

• Spot rate Fb: Forward Bid exchange rate

▪ Period Sb: Spot Bid exchange rate

n: period
• Interest rate of involving currency N: number of a period
R1: deposit interest rate of quote currency
R2: loan interest rate of commodity currency

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

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1. FORWARD MARKET 1. FORWARD MARKET

Example
Forward Rate:
➢Customer C wants to sell 20,000 EUR from an export contract in next three
➢Formula to calculate ask rate (tỷ giá BÁN): : months,
➢Customer D needs to buy 25,000 EUR to pay for next 6 months
R − R2 
Fa = Sa + Sa  1 n ➢Spot rate EUR / VND is equal to 25,940 / 26,018
 N  ➢Interest rates for EUR and VND as follows:

Currency 3 months period 6 months period

Trong đó: Deposit Loan Deposit Loan
EUR (% per year) 3.25 4.25 3.28 4.32
Fb: Forward Ask exchange rate
VND (% per year) 7.2 9 7.8 10.2
Sb: Spot Ask exchange rate
1. Determine the 3-month forward buying rate to offer customers C
n: period 2. Determine the 6-month forward ask rate to offer customers D
Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

N: number of a period

1. FORWARD MARKET 1. FORWARD MARKET

❖Application of Forward market: ❖Application of Forward market:

➢Speculation/ Đầu cơ
Hedging:
If the trader expects a strong appreciation of currency in
❑Payable in import operation the future.
➢→ speculation by buying forward contract of that
❑Receivables in export operation
currency.
❑Investment in foreign currency ➢If the trader expects a strong devaluation of currency in
the future.
❑Loan in foreign currency
➢→ speculation by selling the forward contract of that
currency.

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

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2. Currency Futures Market 2. Currency Futures Market

❖Concept: Future contracts were created to overcome 3 issues

Currency futures contracts are contracts of forward contracts: Why do we have

future contract?
specifying a standard volume of a particular ❖Difficulties in finding transaction partners.

currency to be exchanged on a specific settlement ❖The risk of partner does not perform the contract
date. ❖Difficult to remove contractual obligations.

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

2. Currency Futures Market 2. CURRENCY FUTURES MARKET

❖Feature: Trading mechanism and payment process

➢Standardized contract: contract size, price, ➢Margin Mechanism

delivery month, delivery date … ➢Daily payment mode
➢Traded currencies on the floor ➢Mechanism of Final settlement
➢Can remove contract obligations easily

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

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MARGIN DAILY PAYMENT MODE

❖Initial margin: Amount of money need to have to ❖Example

open future market.
BUY EUR FUTURES CONTRACT
❖Variation margin :
Date 10/11/2006

➢Minimum amount of money need to maintain on Delivery month 06/2007

the following days. Exchange rate 1.253 EUR/USD

Contract scale EUR 125,000
➢Minimum amount of money before investor
Initial margin 1.5% contract value
offered margin call
Variation margin USD 2,000

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

DAILY PAYMENT MODE DAILY PAYMENT MODE

Deposit/ Balance at Buy GBP futures contracts

Settlement Contract
Date Profit/loss Withdrawal the end of
price value
amount the day Date 1/1/2010

Sign contract 1.2530 156,625 2349.375 2349.375 Delivery month 09/2010

10/11/2006 1.2535 156,687.5 62.5 2411.875 Exchange rate 1.5088 GBP/USD

13/11/2006 1.2537 156,712.5 25 2436.875 Contract scale GBP 62,500
14/11/2006 1.2547 156,837.5 125 2561.875
Initial margin USD 1,755
15/11/2006 1.2540 156,750 (87.5) 2474.375
Variation margin USD 1,300
16/11/2006 1.2538 156,725 (25) 2449.375
17/11/2006 1.2550 156,875 150 2599.375
20/11/2006 1.2545 156,812.5 (62.5) (2536.875)

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

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DAILY PAYMENT MODE MECHANISM OF FINAL SETTLEMENT

Account
Date
Payment Contract
Loss/ profit
Deposit/
withdraw
balance at Case 1: Future contracts are not maintained
price value the end of
amount
the day until maturity.
Sign contract 1.5088
➢If a person is in long position (buyer) of a futures
01/01/2010 1.5076
02/01/2010 1.5045
contract, he can close this position by reselling the
03/01/2010 1.5010 contract in the market.
04/01/2010 1.5006
05/01/2010 1.5050 ➢If a person is in a short position (seller) of a
08/01/2010 1.5072 futures contract, he can close this position by
09/01/2010 1.5091
buying a contract in the market.
Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

MECHANISM OF FINAL SETTLEMENT 2. CURRENCY FUTURES MARKET

Case 2: Future contracts are maintained until Application:

maturity: ❖Speculation
❖The buyer will resell the future contract to the ❖Hedging
clearing company, the amount of money to buy will
be bought in the spot market.
❖The seller will repurchase the futures contract from
the clearing company, the money will be sold on
the spot market.
Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

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3. Currency Options Market 3. Currency Options Market

❖Concept
▪ Classification
➢Currency options provide the right to purchase or Currency
sell currencies at specified prices. option

Currency Currency
call option put option
Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

3. CURRENCY OPTIONS MARKET 3. Currency Options Market

❖Classification ❖Classification
Currency call option Quyền chọn mua Currency put option Quyền chọn bán

Buyer Seller
Bên mua Bên bán
Bên mua Bên bán
Buyer Seller

• Obligation: Pay option • Right: Receive option • Obligation: Pay option • Right: Receive option
fees. fees. fees. fees.
• Right: Buy a certain • Obligation: Sell a certain • Right: Sell a certain • Obligation: Buy a certain
currency at a specified currency at a specified currency at a specified currency at the price
price price, if the buyer price. determined if the buyer
exercises his rights exercises his right
Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

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3. Currency Options Market 3. Currency Options Market

European and American style options: ❖Option rate

➢European style: Only allow the option to be Call option contract

exercised at the time of maturity. Call option rate is applied to buy foreign currency

➢American style: Allows the option to be exercised ➢ Call option rate is smaller than spot rate =>
at any time until the contract is due. apply Call option

➢Call option rate is larger than spot rate => not

apply Call option

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen 30

3. Currency Options Market 3. Currency Options Market

❖In call option contract: ❖Option rate

❖Net profit receiving in buy call option
Net profit = Spot rate – Premium paid for call option
– Purchase price
Net profit receiving in sell call option
Net profit = Premium paid for call option - Spot rate
+ Purchase price
Put option contract (chọn bán):
Put option rate is applied to sell foreign currency
➢Put option rate is smaller than spot rate => not
apply Put option
➢Put option rate is larger than spot rate => apply
Put option

Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

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3. Currency Options Market 3. Currency Options Market

❖Information about USD/VND option price as
❖In put option contract:
follow:
❖Net profit receiving in buy put option (mua quyền Content Call option Put option
chọn bán) Value of the contract 100,000 USD 100,000 USD
Net profit = Purchase price (giá thực hiện)- Spot rate Purchase price 20,830 20,850
- Premium paid for put option Period 3 months 3 months
❖Net profit receiving in sell put option (bán quyền Style option US US
chọn bán)
Premium 10 dong /USD 20 dong /USD
Net profit = Premium paid for put option + Spot rate
- Purchase price Lecturer: Dr. Tien Trung, Nguyen Lecturer: Dr. Tien Trung, Nguyen

3. Currency Options Market

On December 5th, customer A bought a call option and

customer B bought an put option.
1. Calculate the premium that the bank earned from
selling the option contracts to customers A and B?
2. How does the exchange rate of USD / VND in the
market change that lead customers A and B will exercise
options to earned profit?
3. Assuming that the USD / VND exchange rate is 20,890
on the due date, how much profit or loss will customers
get?
Lecturer: Dr. Tien Trung, Nguyen