Conclusiones generales

The availability of currency derivatives in Ems is influenced by a degree of development of these markets and the openness of their governments to foreign investment and floating exchange rates. Therefore, the hedging with currency derivatives varies among these markets. Ems refers to a large number of countries all over the world, so it is possible to consider this issue by analyzing currency derivatives use in Africa, Asia, Central and Eastern Europe and Latin America.

4.1. Currency derivatives in Africa

In many African countries, financial markets are not enough developed to carry out anything beyond basic currency forwards, futures and swap. For example, in Nigeria currency forwards are subject to a maximum tenor of three years, which is considerably better compared to 180 days tenor in 2006. Authorized dealers are now allowed to engage in swap transactions between themselves or with retail/wholesale customers. These transactions with deliverable forwards and swaps are restricted to a maximum tenor of three years. The non-deliverable forward market is underdeveloped and has very poor liquidity. Unlike Nigeria, Kenya has a free-floating currency (Kenyan Shilling) that is fully liberalized and convertible. There are no restrictions on transactions relating to the current and capital accounts and no foreign exchange controls. However, most of trading occurs in vanilla currency forwards, futures and options, while there is still no available foreign exchange protection for periods longer than one year.

The most developed currency derivative market has South Africa. According to African derivatives guide book (2010), hedging can be done by using currency forwards (tenors of up to 10 years and average daily volume of US$1 billion), futures (on notional underlying swaps in 2, 5 and 10 years contracts), currency options (tenors up to 5 years and transaction average size of US$25 million), options on futures, and cross currency swaps (available for period up to 10 years).

4.2. Currency derivatives in Asia

Asian markets represent one of the world‟s fastest growing regions for the development of currency derivatives. Singapore has one of the most advanced financial services industries in the region and is at par with international standards. It attracts high levels of overseas investments as it builds a reputation as an offshore financial center. Singapore has one of the most developed currency derivative markets in Asia, i.e. one of the most liquid over-the-counter currency derivative markets (after Japan). A study prepared for ISDA

(2013) suggests that investors can hedge currency risk by non/deliverable currency forwards with settlement in US dollars, currency futures, conventional and exotic currency options, and currency swaps.

The South Korean market is relatively open and attracts worldwide interest, especially after Korea Futures Exchange is launched. Financial system of South Korea is fast developing and enables sophisticated currency derivatives use, both conventional and exotic ones (such as “knock-in-knock-out” foreign exchange options for hedging against the appreciation of the local currency in relation to the dollar) (Prates and Fritz (2013.). Although currency derivatives market was stagnant in 2012 due to decrease volatility of interest rate and foreign exchange markets, in the study prepared for ISDA (2013) it is expected to grow in the future. China is one of the fastest growing economies in the world, so is its financial market. Though the over-the- counter derivatives market in China developed quickly, the market is still immature, as measured by the number of products, liquidity, market structure, and existing infrastructure with a slightly stagnation and even decline during the last few years. In Chinese market is possible to hedge currency risk with a range of currency derivatives, such as currency forwards (deliverable and non-deliverable forwards), currency swaps (non-deliverable and non-deliverable forward swap), currency non-deliverable options and currency swaps (Zhang and Chan (2011).

Similarly, the Indian foreign exchange market has grown significantly in the last more than ten years. However, existence of government restrictions regarding currency derivatives use prevents financial market‟s further grow. Despite this, in India is possible to hedge with non-deliverable currency forwards, options, swaps, forwards, swaps, forward swaps, swaptions, quanto options, and ratchet options.

4.3. Currency derivatives in Eastern and Central Europe

In Eastern Europe there is a wide variation in currency derivative developments. Among countries that belong to this region, it‟s worth focusing on Russian Federation and the European Union member states (Czech Republic, Hungary and Poland).

Since the Russian government allowed ruble to float more freely in 2006, the investment in this county become sizable and led to growing currency futures use by international investors. This has influence the currency derivatives use on the Moscow Interbank Currency Exchange. Besides this, in 2013 US dollar to Russian ruble cross- currency swaps and currency swaps were introduced with maturities from intraday to five years.

The currency derivatives market of the Czech Republic is small compared to those of developed markets, but its currency derivatives market is active, stable, and tightly regulated by the Czech National Bank. Currency derivatives activity has significantly grown since 2004, when trading began to center on the euro. In particular, the volume of currency forwards has been relatively large for the last several years because international investors have sought the higher interest rates in the Czech Republic, motivating them to exchange their home currencies for the koruna to buy Czech bond issues. But, in general the currency derivatives can be used in a very basic manner, i.e. the hedging is possible with conventional currency forwards, currency futures and a few currency options.

After 2001, Hungary began to experience higher currency risk, which fostered the development of basic currency derivatives, which are traded on the Hungarian over-the-counter market. The most widely traded derivatives are based on different currencies (e.g. Euro, US dollar, Swiss franc etc.) and ad currency futures are most popular contracts. Based on these trends, it is safe to say that the market for currency derivatives in Hungary will broaden and deepen at a solid pace. The recent crisis has adversely affected Hungary which currency derivatives turnover has largely decreased between 2007 and 2010 (Mihaljek and Packer (2010), while there were difficulties exchanging Euros and Swiss francs for domestic currency in foreign currency swap markets. However, since 2009 local currency swap market has recovered.

Since 2000, Poland has advanced in its use of futures and options, beginning with the use of four currency pairs. Today there are five currency pairs used. The currency pairs serve as a basis for further developments in currency derivatives, such as currency forwards, currency options with expiration up to five years and cross-currency swaps with the maturity of at least ten years.

4.4. Currency derivatives in Latin America

Latin America are still relatively fast growing region but which is characterized by political and economic instability, across all the countries, especially among the most developed ones, such as Argentina, Brazil and Mexico.

Argentine did not get a chance to recover from the financial crisis that began in 2002, when new so-called international financial crisis occurred in 2007. In this regard, Argentina is still in recovering phase. All these have significantly affected the currency derivatives market. Non-deliverable forward contracts are available only in large amounts, which disable small investors to use them for hedging. Besides, currency risk can be hedged with basic currency futures, currency options and swaps.

Since the mid-2005 Chilean authorities have allowed freely floating of peso, which has influenced the currency derivatives growth. However, even in 2010, currency derivatives are currency forwards (which are mostly non-deliverable), futures, and swaps. The use of exotic contracts is usually avoided, although in some situations knock in and knock out options were used for hedging purposes (Avalos and Moreno (2013) Brazil has the most advanced capital markets and most sophisticated currency derivatives market in Latin America, with both basic hedging and sophisticated instruments available. As such, the Brazilian Mercantile and Futures Exchange, where currency derivatives and other instruments are traded, are considered one of the most developed exchanges among western emerging markets. Large daily turnover in interest rate derivatives has affected the increase in currency derivatives use.

Because of the volatility of Peso and the high level of corruption in Mexico, investors have always had the incentive to hedge currency risk. Free float of peso has led to great currency derivatives market growth. Hedging can be done with all currency derivatives, while since 2002 currency options and currency swaps has become dominant instruments.

4.5 Emerging markets outlook

Emerging market economies had impressive growth rates during the period of 2003-2007. However, the global financial crisis influenced their growth rates slow down in period 2008-2010. Since 2011 growth rates of these economies started to recover and increase. According to World economic outlook (2014), the growth in emerging market economies is expected to be slightly over 5 percent in 2014 with an expectation of its further increase in 2015 and 2016 (i.e. lower than during the pre-crisis period). Africa is expected to have a moderate growth with an exception for North African countries that are expected to grow at a much slower rate (approximately 3% on average). Growth rates of the emerging market economies of Asia are forecasted to remain at 5.3% in 2014 because of tighter domestic and external financial conditions before rising to 5.7% in 2015, helped by stronger external demand and weaker currencies. China represents an exception from this because of the very high growth rate which is forecasted to remain unchanged at about 7% in 2014- 2015, after a modest decline in 2012-2013. Besides, the forecast for India suggests an increase in GDP growth at 5.4% in 2014 and 6.4% in 2015 (assuming the investment and export growth after recent rupee depreciation). Only a modest acceleration in activity is expected for regional growth in Latin America, with growth rising from 2% in 2014 to 3% in 2015 which will be due mainly to growth rates in Mexico.

The past twenty years there were big changes in private capital inflows to EMs. These flows have increased substantially both in absolute terms and as a share of those markets GDP and have been characterized by large fluctuations in response to changing global financial and economic conditions. According to World Bank (2014), in the 2009 financial inflows have averaged around 6 percent of GDP in EMs. However, financial crisis has influenced the decline in capital flows, so World economic outlook (2014) provides an expectation of capital flows decline in EMs by about 0.6% of their GDP by 2016, as global asset portfolios are rebalanced toward developed market economies. Briefly, a financial crisis calming in developed markets will affect not only the decrease in capital inflows in EMs but also the increase in exports and interest rates. The increase in interest rates could cause significant damage on emerging market economies by raising domestic and external costs of debt servicing.

Inflation rates in EMs have been growing in after financial crisis period with exception for some counties in 2012-2013 in which inflation rates experienced slightly decline (e.g. China, Korea, Kenya, Poland, Romania, Russia etc.). Nevertheless, the inflation rates in these markets are expected to remain high compared to developed markets as a group.

Furthermore, in 2002-2007 the majority of emerging market currencies experienced appreciation against the U.S. dollar. According to IMF report of representative exchange rates against U.S. dollar (2014), in 2008 emerging market currencies depreciated with exception for few countries (such as Czech koruna and South African rand). In 2009-2010 the majority of emerging market currencies appreciated against the U.S. dollar with exception for a number of countries (e.g. Russian ruble in 2009 and 2010 or Czech koruna and Hungarian forint in 2010). In 2012-20103 there were both appreciations and depreciations in emerging market currencies, so it could be expected that those trends will prevail in the future. In general, in 2014- 2016 the depreciation can be expected to continue in large number of emerging market economies, for exception for some Asian economies, Russia and some European economies. Finally, volatilities of the emerging market currencies have been notable dropped in 2007 compared to volatilities in 2000, while in period 2008-2013 the volatilities have grown.

With regard to currency derivatives in EMs it should account for more use of currency derivatives in future because of foreign investors need to hedge when investing in portfolios in emerging market securities, especially when direct hedging is not possible, i.e. when only cross-hedging is feasible. Besides, currency derivatives can be used to hedge currency risk in global portfolios. Finally, currency derivatives can be an efficient hedging tool for hedge funds and corporations in EMs that are strive to enhance their portfolio returns through foreign exchange (i.e. enhancing a “portable alpha”).

5. CONCLUSION

EMs have made considerable progress in last twenty years although they have been adversely affected by a number of financial crises in the world. Those markets have unique potential for further growth, but there are lot of problems waiting to be solved in the future, especially those related to trade and financial restrictions removal and free float of currencies. It should not be oversight the influence of the U.S. on the financial stability especially if economic growth slows. Furthermore, in EMs the financial as well political risk will always exist. A part of this risk can be reduced by hedging. Those markets need foreign investors‟ capital and they can be attracted by enough developed currency derivative market. Despite the projected growth rates, inflation rates, capital inflows, currencies „depreciations (appreciations) and currencies‟ volatilities, it is reasonable to expect slow improvement in emerging market economies in next two or three years. In addition, the more sophisticated use of currency derivatives can be anticipated (both in number and types) and more emerging market government incentives for investment and currency derivatives use.

Given that foreign investors will be always exposed to exchange rate risk, their need to hedge this exposure will never disappear, but will grow with emerging market growth.

REFERENCES

African Fixed Income and Derivatives Guide Book (May 2010), African Development Bank Group, p. 125 AGF Investments, MSCI All Country World Index Overview. (January 29, 2014). Ritrieved from

http://markets.ft.com.

The Asian OTC Derivatives Markets – A Study Prepared for ISDA. (April 23, 2013). Celent.

Avalos, F. & Moreno R. (March 2013). Hedging in derivatives markets: the experience of Chile, Quarterly Review, 53-63.

Bogojevic Arsic, V. (2009). Upravljanje finansijskim rizikom, SZR “Kragulj”, Beograd, 2009

Bouzoubaa, M. & Adel, O. (2010) Exotic Options and Hybrids – Guide to Structuring, Pricing and Trading, Wiley&Sons, Ltd.,

Burger, J. D., Warnock, F. E. and Warnock V.C. (2012). Emerging Local Currency Bond Markets, Financial Analysts Journal 68(4), 73-93.

Calvo, G. A. (2005). Crisis in emerging market economies: A global perspective, Frank D. Graham Memorial Lecture, March 30, Princeton University, Princeton, NJ.

Eichengreen, B., Hausman, R. and Panizza, V. (2003). Currency mismatches, debt intolerance, and original sin: Why it matters, National Bureau of Economic Research, Working Paper 10036.

Gilmore, S. & Hayashi, F. (2011). Emerging Market Currency Excess Returns”, American Economic Journal: Macroeconomics, 3(4), 85-111.

Henderson, C. (2006) Currency Strategy - The Practitioner‟s Guide to Currency Investing, Hedging and Forecasting, John Wiley&Sons, Ltd..

Institute of International Finance, www.iif.com (accessed on 15th _{November 2013).}

International Bank for Reconstruction and Development. (2014). World Development Indicator 2014, Washington,

International Monetary Fund (April 2014). World Economic Outlook: Recovery Strengthens, Remains Uneven, IMF.

IMF report of representative exchange rates against U.S. dollar. (2014). IMF.

McFadden, D. (2004). Hot money and cold comfort: Global capital movement and financial crises in emerging economies, presentation at ANEC Conference on Globalization and Development, Havana, Cuba.

Mihaljek, D. & Packer, F. (December 2010). Derivatives in emerging markets, BIS Quarterly Review. Moscow Exchange. http://moex.com/en/derivatives. (Accessed in December 2013).

Prates, D. & Fritz, B. (October 2013) Beyond capital controls: the regulation of foreign currency derivatives markets in South Korea and Brazil after the global financial crisis, Berlin Working Papers on Money, Finance, Trade and Development, Working Paper No.07/2013.

Warsaw Stock Exchange. http. (Accessed in December 2013).

Zhang, G. P. & Chan, T. (2011). The Chinese Yuan: Internationalization and Financial Products in China, Wiley&Sons Ltd.

THE VISIBLE HAND OF STATE IN THE BUSINESS OF INSURANCE