Foreign Currency derivative is defined as a financial contract that seeks to swap two currencies at a predetermined rate. It can also be termed as the agreement where the value can be determined from the rate of exchange of two currencies at the spot.
The currency derivative trades in markets that correspond to the spot (cash) market. Hence, the spot market exposures can be enclosed with the currency derivatives. The main advantage from derivative hedging is the basket of currency available.
The derivatives can be hedged with other derivatives. In the foreign exchange market, currency derivatives like the currency features, currency options and currency swaps are usually traded. The standard agreement made in order to buy or sell foreign currencies in future is termed as currency futures.
These are usually traded through organized exchanges. The authority to buy or sell the foreign currencies in future at a specified rate is provided by currency option. These will help the businessmen to enhance their foreign exchange dealings.
The agreement undertaken to exchange cash flow streams in one currency for cash flow streams in another currency in future is provided by currency swaps.
