Non- deliverable options
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However, instead of delivering the currency at the end of the contract, the difference between the NDF rate and the fixing rate is settled in cash between the two parties.
This is useful when dealing with non-convertible currencies or currencies with trading restrictions. How does an NDF work?
You agree on the currency pair and the notional amount with your Account Manager. The NDF rate is agreed upon. The fixing date and the settlement date are chosen.
Depending on whether the rate has gone up or down, the difference is paid in a settlement currency on the settlement date— this could mean that you receive money from Smart, or that you pay Smart the difference. Due to currency restrictions, a Non-Deliverable Forward is used to lock-in an exchange rate. You buy GBPThe contract will be in Profit or Loss on the fixing date — this is to hedge against the prevailing Spot Rate on that future date.
Depending on whether the contract is in Profit or Loss, you could receive money from Smart, or you pay Smart non- deliverable options difference on the settlement date.
The table below shows two possible outcomes: Advantages of an NDF NDFs are available in a wide range of currencies and provide means of negating foreign exchange risk in markets where physical delivery is not possible.
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- Non-Deliverable Forward (NDF) Definition
An NDF works like a regular forward contract, but with no physical delivery of the underlying currency pair. An NDF provides protection against adverse movements in the exchange rate of the currency pair during the term of the contract. The NDF is tailored to your needs — the fixing date and notional amount are non- deliverable options by you.
The notional amount is never exchanged, hence the name "non-deliverable. This means that counterparties settle the difference between contracted NDF price and the prevailing spot price.
Disadvantages of an NDF An NDF provides no protection against adverse movements in the currency markets at the time of paying the net difference.
When an NDF involves emerging market currencies, the markets are inherently less liquid and more exposed to fluctuations than the markets for major currencies.
You are unable to participate in favourable movements in the spot rate. Cancellations or adjustments may result in a cost to you.
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