1. Treasury A Perspective into Markets and Dealing

2. The Business Issues Introduction to Derivatives The Markets Agenda

3. The USD/INR Price The Drivers Fiscal Policy Monetary Policy Trade Balance External Factors Correlations The Indicators Interest Rate Growth Rate Inflation Demand and Supply Offshore Interests (FII, NDF) Other Prices Value Propositions (REER, NEER) =44.20

4. Retails Oil Oil Seller Buys Oil at $60 per Barrel Gives INR Buy USD (at Spot Rate) Where are the risks? Receives INR

5. Where is Price Risk ….. Cost of Oil Imported - Day 1 Cost of Oil per barrel in INR $60 x 44.20 = Rs. 2652 Other Costs (refining etc) say Rs 100.00 Total Cost Rs 2752 Replacement Cost – Day 30 Cost of Oil per Barrel ???? Exchange Rate of USD/INR ???? Crores Other costs assume fixed at Rs 100 Total Cost ????? The Price Risk is mitigated if the retail prices were totally linked with the Procurement Price – But reality is different…

6. The Reality is Procurement Price WTC Oil USD/INR Retail Price

7. The uncertainty over the ultimate costs leads to inefficient pricing especially in a competitive environment….. Cost of procurement is impacted by Price of Oil Price of USD If on Day 30 the price of Oil remains at $60 and the price of USD is 44.50 and given that the retail price of Oil is not changed, OMC would lose How do we decide the the efficient pricing of oil for the consumer on Day 1? However, if the price of USD were to come down, OMC would gain

8. The Business Issue Introduction to Derivatives The Markets Agenda

9. Issues Business accruals in INR Procurement in USD Two factor pricing (Oil and USD) Inability to link Retail Pricing to Procurement Need Identified Minimize the impact of the Price Risk between retail and procurement Solution Use customized hedges to suit requirement Issues, Need and Solution

10. Effect Business accruals in INR Price Risk covered for the period of Forward Hedge Achieve more efficient pricing

11. Classical Interest Rate Parity Spot FX Forward FX Interest Rate 1 Currency 1 Currency 2 Interest Rate 2 Therefore the Hedging “Cost” is nothing else but the Interest Rate Differential between the two Currencies

12. Hedging – Some Issues When To Hedge Arrive at the Cost of Operations + Margins = Net Cost As and when levels are seen over the Net Cost View Based What period to hedge Hedge price risk for the period of resetting of Retail Prices

13. “ To my knowledge no model projecting movements in rates is superior to tossing a coin” Alan Greenspan Former Chairman Federal Reserve

14. USD/INR NYMEX OIL

15. The Business Issue Introduction to Derivatives The Markets Agenda

16. Financial instruments whose value is DERIVED from some other Underlying Asset Examples of Derivatives Futures and Forwards Swaps Options Types of Underlying Assets include: Equity Shares Interest Rates (including Government Bonds) Foreign Exchange Commodities

17. Buyer - acquires the Right but not the obligation Seller – sells the right but has the obligation Option is a contract where the Buyer buys the Right but not the Obligation….

18. 46 FORWARD USD/INR 48 47 43 44 42 45 USD/INR CALL ITM CALL ATM CALL OTM CALL Illustration

19. CALL PREMIUM 46 FORWARD USD/INR 48 47 43 44 42 45 ITM CALL ATM CALL OTM CALL Premium Lower Premium Higher

20. Zero Cost Strategy44.00 46.00 BUY CALL SELL PUT Buy from the Bank Losses Limited Buy from the Market Unlimited Profit potential Exercise CALL Buy USD @ 46.00 Exercise PUT Buy USD @ 44.00 Sacrifice Profits Below 44.00

21. The Business Issue Introduction to Derivatives The Markets Agenda

22. The Interest Rates O/N Market –Usually in band of 5.25%-6.25% –System Liquidity Short Tenor –Up to 5 years –Banks and P.Ds Long Tenor –10 Years + –Insurance co. + Pension Funds

23. Global Interest Rates –US “number of rate increases…probably not be large..” – FOMC minutes. –UK BoE Cut policy rate in response to weakening economic activity. –Euro ECB hiking and may continue until inflation no longer exceeds target 2.0% (currently 2.3%) –Japan Mild deflation continues. (-0.3%)

24. Inflation – the Drivers Inflation Expectations Month End WPI Inflation Dec’054.40% Jan’064.78% Feb’065.09% Mar’064.96% Apr’064.16% May’064.42% Indian Inflation is OIL driven

25. Correlations High Correlation with Dollar movements in international markets.

26. Exchange Rate Rupee +ve –FII/FDI Inflows –External Commercial Borrowings –Service Exports Rupee –ve –Trade Deficit OIL

27. The Trade Flows Commodity Imports Oil is 32% of India’s commodity Imports. Growth in Oil imports = 43% Growth in import of machinery goods = 44% Overall, merchandise trade deficit Surpassed Invisibles surplus

28. The SBI advantage Largest in – Size, Network and Market Presence Total understanding of the PSU Environment Is the Business Partner in the growth of the Indian PSU Incorporated Has large pool of Expert Resources available for advice Preferred choice of major Corporates Transparent working Relationship based on Trust

29. Thank You