How The Forex Futures Market Will Work At The FMDQ OTC EXchange

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The Nigerian OTX Forex Futures market started formally yesterday at the FMDQ OTC Exchange located in Lagos. It is a Naira-settled OTC FX Futures market. While this topic might be technical, we want to share with you how trading in the market will work

However, in case you are wondering what futures is, it is simply a financial transactions where buyers and sellers of a commodity agree to a current price (forwards price) for a commodity and the buyer takes possession of the item in a future date at the agreed price.

As regards Forex, companies and dealers interest in accessing Forex can enter into futures contract to meet their FX needs, however, the buyer and the seller are locked into the agreement, as the buyer must either pay the the same amount even if the Forex rate goes up or down or pay the difference between the current price and the spot price for the buyer to walk away from the deal.

How will the Naira-settled OTC FX Futures contracts be settled? Below is an illustration of the settlement of a 6- month OTC FX Futures contract between the CBN and a bank (please note that this is strictly for illustration purposes):

Day 1:

June 1, 2016 – Bank A buys a 6-month OTC FX Futures contract from the CBN on the FMDQ OTC FX Futures Trading & Reporting System with the following details:

  • Buyer: Bank A
  • Seller: CBN
  • Notional amount: $1,000,000.00
  • OTC FX Futures Rate: $/₦265.00
  • Benchmark: NIFEX
  • Maturity Date: December 31, 2016
  • Initial Margin: 5% (payable by both parties)
  • Maintenance Margin: 50% of initial margin
  • Settlement Currency: Naira

The OTC FX Futures contract will be valued on a daily basis against the NIFEX to determine payment of variation margin amount.

Maturity Day: December 31, 2016 – NIFEX is $/₦270.00

It is assumed that Bank A would have transacted (bought USD in the Spot FX market) at $/₦270.00 which is higher than the OTC FX Futures contract rate of $/₦265.00.

The Clearing House, NIBSS, will pay Bank A ₦5,000,000.00 (i.e. ₦5.00 [₦265.00-₦270.00] per USD) thereby bringing Bank A’s effective rate to $/₦265.00 (₦270.00 assumed paid in buying USD less ₦5.00 received on the OTC FX Futures contract) which is the OTC FX Futures rate.

CBN is assumed to have transacted (sold USD in the Spot FX market) at $/₦270.00 which is higher than the OTC FX Futures contract rate of $/₦265.00.

The Clearing House, NIBSS, will take ₦5,000,000.00 (i.e. ₦5.00 per USD) from the Margin Account of the CBN, thereby bringing CBN’s effective rate to $/₦265.00 (₦270.00 assumed received in selling USD less ₦5.00 paid out on the OTC FX Futures contract) which is the OTC FX Futures rate.

Both parties end up with an effective rate of $/₦265.00 as this was the guaranteed rate for both parties.

If NIFEX had been $/₦250.00 on maturity date, Bank A would have paid CBN ₦15.00 per USD.

 

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