Forex Forward: Risk Management Process
CCIL extends guaranteed settlement of USD/INR Forward trades with residual maturity up to 13 months. The risk associated with this segment is the pre-settlement risk which is equivalent to market risk on forward positions. The risk management relating to forex forward segment provides for collection of margins based on the outstanding trade positions of the members in forward segment. Forward trades are subjected to exposure checks for adequacy of margins for both the counterparties to the trade, on a trade by trade basis before those are accepted by CCIL.
CCIL seeks to cover its risk through prescription of Initial margin (including spread margin), mark to market margin, volatility margin and concentration margin. The Initial Margin (IM) on the outstanding trades of the Members is collected based on Portfolio Value at Risk model (PVaR). It is supplemented by collection of spread margin. Based on the Short-term credit ratings of the members, CCIL has prescribed different levels of initial margins for different members. Minimum Initial margin (including spread margin) is collected in case the margin value as per PVaR model is lower due to lower volatility in USD/INR exchange rate. Initial margin is released on acceptance of forward trades in Forex settlement segment (Spot window).
Mark to Market Margin (MTM) constitutes the margin obligation required to be fulfilled by a member to cover the notional loss (i.e. the difference between the current market price and the contract price of the trade), if any, in the outstanding trade portfolio due to movement of exchange rates. Marking to market of outstanding trades is carried out at the end of the day. MTM values of settlement date wise net positions are computed using USD/INR forward exchange rates. These MTM values are then discounted to the date of computation using CCIL sovereign zero coupon rupee interest rates (ZCYC). Forward Rates for pre-specified tenor points (calendar month ends and for other specified short tenors) are taken as the basis from which the forward rates for other tenors are arrived at through interpolation/ extrapolation. MTM margins blocked may be used to meet any shortfall in USD/INR settlement segment due to failure of the member to discharge its obligation toward forward trades. MTM margins blocked are released on successful settlement of forward position in the settlement window. There is also a provision for collection of Intra-day MTM margin. If MTM loss on outstanding trade portfolio of a member, computed using Intra-day MTM rates is beyond a threshold as notified from time to time, intra-day MTM margin is collected.
In case of sudden increase in volatility in USD/INR exchange rates, Volatility Margin (VM) is imposed by CCIL at a rate notified to the members. On imposition of VM, Initial Margin requirement effectively increases by the same percentage at which VM was imposed.
The margins viz. IM, VM and MTM for Forex Forward segment are blocked from the unutilized portion of the SGF deposited by such member for Securities Segment.
A dedicated Default Fund is in place for the segment for meeting any residual risks arising out of default by a member. The default handling procedure for the segment provides for two approaches:
a) In the event of Margin Shortfall: In the event of a member’s margin requirement exceeding 100% of the margin made available by the member, Clearing Corporation may bring the margin liability of the member within the required level by closing out such trades or positions of the member as it considers necessary.
b) In the event of Insolvency: In case of insolvency of a member, a decision may be taken by the Clearing Corporation to close out all outstanding forward trades of such member.