Aug 06 2018

USDINR Ideas – Range Forwards are in!! 6Aug2018

After a roller coaster ride in April-June 2018, the Indian Rupee has stabilized around 68.20 – 69.10 since July 2018 – Lull after the storm (could it be a precursor to another storm brewing?)

While the storm continues in the international financial markets, rupee remained (more or less) unfazed.

 

What next is the crucial question. In the short term, 68.25-35 looks to be a good support – 5 failed attempts to break the levels. On the other side, 69.05-69.15 looks like a stiff resistance – 4 attempts to penetrate that range has failed. When markets gets range-bound, participants become complacent – either they don’t hedge at all or they follow market views (primarily lead by newspaper/online articles). When risk management becomes subjective and market view based, chaos follows. Risk management should be process-based, system-based – originated from budgeting/costing principles. One such critical risk management principle is called diversification of risk – using various risk hedging strategies to efficiently manage forex risk.

 

In a range bound scenario (like the present one), a Range Forward can be effectively used to diversify forex risk.

For example: current USDINR spot 68.80, 1 year forward rate 71.78

For an exporter, a Buy Dollar Put at 70 and sell Dollar call at 73.50 for 1 year maturity looks extremely attractive – best case rate of 73.50 and worst case rate of 70

In the above case, risk arises only if Rupee weakens beyond 73.50 after 12 months – almost 7% weakening from current levels (unlikely scenario).

One could argue that current forward rate 71.78 is better than the worst case rate of 70 – remember the best case rate of 73.50 provides adequate upside flexibility too.

Moreover, use Range Forward as a compliment to existing forwards rather than as a substitute to it.