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Part 2: Participants, Authorities & Key Forex Terms

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Part 2: Participants, Authorities & Key Forex Terms

Series: Understanding the Foreign Exchange (Forex) Market

6. Who Are the Participants in the Forex Market?

  • Hedgers: Businesses that lock exchange rates to avoid losses from currency fluctuation.
    Example: An Indian IT company hedges USD payments to avoid rupee appreciation risk.
  • Speculators: Traders who try to profit from currency movements.
    Example: A forex trader buys USD/INR expecting the dollar to rise in value.
  • Arbitrageurs: Take advantage of price differences in two markets.
    Example: Buy USD in London market at $1 = ₹82 and sell in New York at ₹82.10.
  • Traders/Dealers: Banks, brokers, or firms executing client or proprietary trades.
    Example: A bank trading large currency blocks for multinational clients.

7. Forex Market Laws & Authorities in India

  • FEMA (1999): Foreign Exchange Management Act – the key legal framework.
  • RBI: Regulates all forex transactions via master directions and approvals.
  • Authorized Dealers (ADs): Banks permitted by RBI to deal in foreign exchange.
  • SEBI: Governs forex derivatives trading for capital market participants.

Example: An Indian firm getting foreign investment must report to RBI under FEMA rules.

8. Key Forex Terminologies

  • SWIFT: Global messaging system for cross-border transactions.
    Example: An Indian bank uses SWIFT to confirm an incoming USD wire from the US.
  • CHIPS: US clearing system for USD settlements between banks.
    Example: Bank of America uses CHIPS to settle a USD payment to SBI New York branch.
  • ECHO: Electronic Clearing House for interbank forex transactions.
  • Exchange Rate: The price of one currency in terms of another.
    Example: 1 USD = ₹83.20
  • Direct Quote: Home currency per unit of foreign currency.
    Example: In India, 1 USD = ₹83.20 is a direct quote.
  • Indirect Quote: Foreign currency per unit of home currency.
    Example: In India, ₹1 = 0.012 USD is an indirect quote.
  • Cross Rate: Exchange rate between two currencies not involving home currency.
    Example: GBP/JPY calculated using GBP/USD and USD/JPY rates.
  • Spot Rate: Rate for immediate settlement (T+2 days).
    Example: Exporter sells USD at spot rate of ₹83.10.
  • Bid Rate: Rate at which the dealer buys.
    Ask Rate: Rate at which the dealer sells.
    Spread: Difference between ask and bid.
    Example: Bid ₹83.00, Ask ₹83.20, Spread = ₹0.20
  • Forward Premium/Discount: When forward rate is above/below spot.
    Example: Spot = ₹83, Forward = ₹84 → ₹1 premium.
  • Appreciation: Home currency strengthens.
    Example: USD/INR moves from ₹84 to ₹82 – INR appreciated.
  • Depreciation: Home currency weakens.
    Example: USD/INR rises from ₹80 to ₹83 – INR depreciated.

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