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Currency Options

Overview

Currency options, also known as Foreign Exchange Derivatives, give the holder of the option the right but not the obligation to buy or sell a specific amount of currency, at a specific rate of exchange, on or before a specific future date.

 

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How does it work?

A currency option provides a company with protection against adverse movements in foreign exchange rates. However, while providing protection, it also allows a company to benefit should spot exchange rates move favourably. In simple terms it is a forward contract that can be revoked if for any reason you do not wish to buy or sell the currency under the contract. For this flexibility you will be asked to pay a premium.

To take out a currency option, you specify the details - the amount and the currencies involved, the rate at which you would like to buy or sell the currency, the expiry date and whether you would like to exercise the option only on the expiry date or at any time up to the expiry date. We will calculate the premium you will be asked to pay as a result of these factors.

A forward contract provides protection, but you are obliged to deal, and at a specific rate. Therefore your company is not in a position to take advantage of favourable movements in rates between booking the contract and completing the deal; nor can you avoid your obligation should your underlying commercial exposure disappear. A currency option overcomes these weaknesses. Once you have specified the details of the option, and paid the premium, you know for certain the lowest rate at which you will be able to buy or sell your currency.

Key facts

  • Minimum deal size: US$500,000 or currency equivalent
  • Maximum deal size: No maximum
  • Period: 1 week to 5 years depending upon the currencies involved
  • Premium: Payable within two days of the deal being agreed
  • Credit line: No credit line is required for buying a standard currency option
  • Availability: In any currency pair where there is a liquid forward market

Summary

  • An option is a simple product which provides protection against adverse movements in exchange rates
  • Options allow you to benefit if rates move in your favour
  • You pay a premium for this flexibility
  • You can protect a budget exchange rate as you choose the rate under the option
  • Provides flexibility if the currency amount is uncertain

HSBC Bank Bermuda Limited, 6 Front Street Hamilton, Bermuda is licensed to conduct investment business by the Bermuda Monetary Authority. This is not a recommendation, offer or solicitation to purchase or sell any security, commodity, currency or other instrument. The information provided herein does not consider specific objectives, circumstances or needs of individual recipients. The use of commodity or financial futures, foreign exchange contracts, investments and index contracts and options thereon involve special risks. Investors should be aware that the risk of loss from investing in these types of securities can be substantial and should therefore be able, financially and otherwise, to assume the risks of such transactions. Readers of this information should seek financial advice regarding the appropriateness of investing in any security, commodity, currency or derivative instrument or strategy contained herein.

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