01 Jun 2009, AV Rajwade, Asia Risk
Duncan Wood's article (KO-ed in Korea, Asia Risk May 2009) gives me a sense of déjà vu: there are many similar cases in India too, some of them of a far more complex nature. I do not, however, agree with Wood's comment that structures consisting of bought and sold options are "tough to model". They are actually quite simple but risky where the corporate is a net seller.
Again, it is not correct that "a tradereceivables hedge that lost money would be offset by an increase in underlying sales". If the contract is a genuine hedge, by definition, the loss on it should be compensated by gain on the underlying exposure. Problems arise when the underlying vanishes and the companies are 'left with naked losses'.
One difference between the Korean and Indian cases is that in India, a major issue is regulatory compliance apart from suitability and appropriateness: Indian exchange regulations allow the use of derivatives only for hedging exposures, and there is a particular responsibility cast on 'authorised dealers' (ADs); that is, banks with whom alone non-ADs can undertake foreign exchange transactions. And, transactions in violation of regulations may be void and, therefore, unenforceable.
AV Rajwade, independent consultant, Mumbai