How to trade Asian currencies
SINCE the start of the year, emerging Asian currencies appear to have turned the corner, after a slide which started in the second half of last year.
The dismal performance in markets such as India, Indonesia, the Philippines and Thailand was brought about by factors that included high domestic inflation, large current account deficits, and political governance issues.
But Asian currencies seem to have rebounded from the lows, with some of the poorest performers against the greenback last year, such as the Indian rupee (INR) and the Indonesian rupiah, making the strongest gains.
While analysts attributed this to the weakening of the US dollar (USD) and positive risk sentiment, Kenneth Tan, assistant manager at Phillip Futures' Foreign Exchange desk, said these regional currencies still remain volatile.
Mr Tan said the pace of the Federal Reserve's quantitative-easing tapering can be expected to pick up pace later this year, leading to higher interest rates in the United States.
When this happens, investors are expected to discard the perceivably riskier assets in emerging markets in favour of safer havens, leading to Asian currencies depreciating, he said.
The gains made by regional currencies this year may be a "temporary retracement" and fundamental issues such as high domestic inflation and large current account deficits in these markets "challenge the sustainability of the turn-around", he added.
The volatility in Asian currencies, compared to majors like the USD or euro, presents an opportunity for speculators who are able to tap on the fluctuations and movements.
Still, one must maintain a "risk-prudent approach" and use the stop-loss function when placing a trade order, Mr Tan advised.
TRADING ASIAN CURRENCIES
Due to the respective countries' regulations, regional currencies cannot be freely bought or sold on the exchange, and investors have to rely on non-deliverable forwards (NDFs).
NDFs, which were created initially for importers and exporters to hedge against currency fluctuations, have garnered more interest among retail investors in the last two years, said Mr Tan.
NDFs are contracts where two parties agree to buy or sell a certain currency at a specific date, at a predetermined price.
However, no actual delivery of the currency takes place when the contract reaches maturity, hence the "non-deliverable".
Instead, through a fixing date, the difference between the contracted NDF price and the spot price is settled, with profits and losses usually derived in USD.
Investors adopt either a "long" or "short" position. In the former, he is bullish and buys at a contract rate with the view that the currency will appreciate.
In the latter, he sells a currency at a certain rate, and looks to take profit when the currency depreciates.
HOW IT WORKS
NDFs are traded on margin, which means that with a comparatively smaller amount of capital, investors can hold a contract of a much larger size.
For example, for a $100,000 contract of USD/INR, an investor will need to have only a 5 per cent margin of $5,000.
Let's assume an investor buys a one-month contract at 1 USD to 62.50 INR.
At the fixing date a month later, if the INR moves up to 63.00, the investor would have made 0.50 "pips". Multiplied by the contract value, this means a profit "equivalent" to 50,000 INR (0.50 x 100,000).
But as the profits are settled in USD, this number must be divided by the fixing rate of 63.00, yielding a profit of US$793.65.
Conversely, if the INR slides to 62.00, an investor will lose 0.50 "pips", or the "equivalent" of 50,000 INR. Divided by the fixing rate of 62.00, this means a loss of US$806.45.
KNOW THE RISKS
With a relatively small margin, traders can make significant profits or losses through NDFs.
Based on the amount of losses they are willing to incur, they should calculate their stop-loss levels, and the appropriate currency rates at which they should close their position, even before the contract reaches maturity.
Asked for tips on trading NDFs, Mr Tan said: "The daily volatility of Asian currencies is much higher than that of the majors, like the USD or the euro. Be prudent, really. And adopt a risk-management approach."
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