Currency trading is possible in India through exchange traded derivatives like currency futures and options. But, currency futures contracts are known to be much more popular than options in India.
The reason? There are seven forex pairs eligible for futures trading while only one pair is open for options trading.
That’s why this blog includes everything you need to know about trading currency futures, including the whats and the whys as well the pros and cons of trading futures of the seven eligible forex pairs. Join us!
What are Currency Futures?
Currency futures are derivative contracts for a pair of underlying currencies like USD-INR, EUR-INR, GBP-INR, JPY-INR, and more. In total, there are seven forex pairs whose futures you can buy and sell in India.
The underlying instrument in forex futures is always a pair of currencies because buying one currency without the other is simply not possible.
Much like any other futures, forex futures also contain an expiration date and a pre-agreed price. This is the date and price at which you are obliged to exercise the futures contract.
As per Indian currency trading rules, futures contracts expire at 12.30 PM, two business days before the last working day of the month. The price of a currency futures contract is an interesting one.
It is based on multiple factors, but the forex rate of the currency pair is known to have the biggest impact on the price of the futures contract.
If you’re an experienced trader or have read about derivatives, you’d notice that forex futures are similar to currency forwards. That said, there’s one major difference between them.
Forex futures are exchange-traded, which means they’re standardized contracts that have a set lot size, best price across trade sizes, and many other perks. Here are all the components of a currency futures contract:
- Traded on: NSE, BSE, & MSE
- Underlying asset: a pair of currencies
- Lot size: in multiples of 1000
- Price: based on forex rate & other factors
- Expiration: two business days before the last working day of the month
Now that you know how a forex futures contract works, it’s time for you to understand the nuances. In India, currency futures are cash-settled – the profit or loss that you make on a forex pair will be added/deducted in INR.
What this also means is that the foreign currency you’ve bought won’t be delivered to your home. Furthermore, future contracts are settled on the last working day of the expiry month.
Who Trades Currency Futures?
There are two types of traders that engage with currency futures. The first persona is you, a retail trader aka a speculator who wants to make potentially lucrative returns by trading currencies.
A speculative trader may or may not want to take delivery of the currency, which is not possible in India anyway. But it is an important differentiator. The speculative trader is only concerned with profits.
The second persona is that of an entity that enters into a forex futures contract to hedge its position. Hedging simply means managing risk but securing a favorable position in the market.
Let’s compare both these personas that trade currency futures with the following examples.
Example of Currency Futures Trading
Think of an Indian company Kurmura & Co that pays a British company Fish Chips & Co in GBP for its services. Kurmura & Co would want to hedge their position by locking the price of the amount payable at a favorable rate.
After all, adverse movements in GBP-INR have the potential to increase the expense of the Indian company. As it happens, the GBP has already shown signs of a potential gain on the Indian Rupee.
There’s a chance that the forex rate may go from Rs. 90.0000 to Rs. 92.0000. Although there’s just been a Rs. 2 increase, it has the ability to significantly increase the cost borne by the Indian company.
That’s why Kurmura & Co enters into a futures contract, locking the price of GBP-INR at a favorable rate of 91.0000. In this case, Kurmura & Co is not a speculative player in the market, they’re in it to hedge their position.
Let’s consider another example. Say Mr. Cool Beans thinks the Euro’s price may rise relative to the Indian Rupee. Mr. Beans will thus turn to NSE currency futures for EUR-INR and enter into a futures contract.
The goal of currency trading online, in this case, is simple – to earn profits in INR. That’s exactly what will happen. Whatever gains (or losses) Mr. Beans experiences will be settled in INR during the expiry month’s final working day.
Factors That Affect Currency Futures Price
The forex spot rate for a pair of currencies is known to affect the futures price for the same currency pair. The spot rate is the latest exchange rate for a pair of currencies. Another way to look at the spot rate? Simple.
It’s the price at which one currency can be exchanged for another as per the latest exchange rates. If you’ve taken an international trip, you may have exchanged currencies at the airport at the most recent exchange rate.
While the forex futures market and the derivative market are a relatively small subset of the forex market, it is affected by the spot because the value of the underlying currencies is, after all, decided by the forex rate.
If the spot price increases, the futures may increase as well. Conversely, a drop in the spot rate can impact the futures price. The movement of the currency pair futures is known to be in and around the spot rate.
As always, there are exceptions. For example, a futures contract for a pair of currencies that’s set to expire in the distant future may not move in tandem with the rising or falling spot rates.
Forex market participants may simply dismiss the rise or fall as a temporary phenomenon. Either way, the market for trading currency futures is popular because there’s potential for making money. But there are risks as well.
How to Trade Currency Futures in India
The process of trading forex futures is more or less similar to any type of derivatives trading in India. There are minor differences, which we will highlight below in the steps to start trading currency futures.
- Step #1: Choose a Broker
- Step #2: Open a Currency Trading Account
- Step #3: Go Through the KYC Process
- Step #4: Research Currency Futures to Trade
- Step #5: Start Trading Currency Futures
Step #1: Choose a Broker
SEBI-authorized brokers are the only ones through which you can buy and sell exchange-traded currency futures in India. Moreover, the broker you choose will give you access to a forex trading platform.
This forex trading platform is crucial to trading futures because it is the interface that allows you to place buy and sell orders. At the same time, the broker must also give you features that make forex trading stress-free.
That’s why you need to choose your broker wisely. Seasoned forex traders are known to evaluate a forex trading platform’s reviews, perks, support, and other factors before making a decision.
Step #2: Open a Currency Trading Account
Opening a currency trading account will allow you to buy and sell futures of all tradeable forex pairs. Without a trading account, you won’t be able to engage with the currency futures market.
There’s a reason for this. That’s because brokers (the ones who help you open a currency trading account) are the ones who can place buy or sell orders with an exchange. To get started, you will have to complete a KYC process.
Step #3: Go Through KYC Process
A Know Your Customer (KYC) process generally requires you to submit a series of official documents that confirm your identity, residence, and income. These documents are mandatory in order to register you with an exchange.
KYC approval and registration may take 24 to 48 hours. Meanwhile, you can use the time to solidify your trading strategies and scout the forex pairs whose futures you want to trade.
Step #4: Research Currency Futures to Trade
There are, in total, seven currency pairs whose futures you can trade in India. Each pair of currencies are known to have varying pros and cons as well as liquidity and volatility.
That’s why it’s best to research the futures for the types of forex pairs you want to trade before actually placing a buy or sell order. Once you’re done with your research, the next step is to start trading.
Step #5: Start Trading Currency Futures
Your forex trading platform will require you to transfer a margin before you can start trading currency futures. Once you deposit the required margin amount, you can place buy and sell orders.
Bear in mind that you can trade futures for currency pairs between 9.00 AM to 7.30 PM in India. INR pairs are traded till 5.00 PM while cross-currency pair futures can be traded till 7.30 PM. That said, cross-currency pairs may struggle for liquidity.
We’ve covered the detailed opening and closing times as well as the holidays in the Indian currency market in this blog: Forex Market Hours & Holidays in India for 2022
You can start trading currency futures in India by opening a trading account with a SEBI-authorized broker. You will be required to deposit a margin amount before you can trade futures for currencies.
The currency market is truly global which means that the events, news, and happenings of foreign countries can have an impact on the forex pair whose futures you wish to trade.
Furthermore, futures for currencies are speculative instruments that contain several pros and cons. Above all, currency trading is a highly leveraged principle that’s why you as a trader need to be careful.
Thus, it’s important to understand your risk profile, risk management strategies, and other essential aspects of trading before you delve into the world of forex futures.
Disclaimer: This blog is not to be construed as investment advice. Trading and investing in the securities market carries risk. Please do your own due diligence or consult a trained financial professional before investing.