Note: Since the time this article was written, 6 Month Euribor has come down from 1.79% (July 2011) to 0.070%. Concept of cross currency still holds but the example would change. Please take below example as reference only.
Question of Buyers Credit in Cross Currency comes up in below cases.
- International trade is carried out in USD, EUR, JPY and other currencies. But when it comes to arranging buyers credit, arranging buyers credit against USD and EUR is much easier, with better price range and more options of banks to choose from is than in other currencies. But even with above understanding, at times it is not possible to transact in these currencies and thus cross currency buyers credit is required.
- Possibility of arbitrage. Meaning move transaction from say Euro to USD because of difference in costing may result in some cost saving. Has been explained in detail further in the article with example.
Process flow for doing Cross Currency
At the time of receipt of the document, importer will book a cross currency Spot+2 or forward as per his comfort with his bank, to get the exact conversion from one currency to other currency. Rest of the process is same as buyers credit which importers already carry out.
Example of Cross Currency from Arbitrage perspective
Cross currency can at times, lead to cost saving. An Example of import payment due in Euro to buyer’s credit into Dollar is given below.
Transaction Value: EURO $100000
USD Value of Buyers Credit: $141713 (as per current market)
Tenure: 6 Months
Quote under both USD and EURO is L + 1.50%
LOU Charges are same for both transactions
Forward for both currency is booked (Rate taken from NSE India Website)
Market Rates – 15/07/2011
6 Month EURO Libor Rate: 1.79188%
6 Month USD Libor Rate: 0.41575%
6 Month EURO Forward Premium: 1.60 (64.64 – 63.07)
6 Month USD Forward Premium: 1.235 (45.73-44.49)
Calculations (LOU charges not are taken below, as per assumption that it is same in both transaction)
|Currency Amount||LIBOR||Margin||L + M||180 days||INR Interest Cost||Forward Premium||In INR|
Other factor to be considered before taking decision
Cross currency Foreign Exchange margin charged by bank on such transaction