High on facts, low on theory

AV Rajwade is an authority on foreign exchange. After working for the SBI in India and abroad for around 20 years, he has been a free-lance consultant for the last 25 years.

In this book, the author explains intricate concepts of the Indian and global foreign exchange market as well as of risk management techniques and instruments in lucid language, often without resorting to technicalities, yet without giving up the economic rigour.

But, therein lies the book's most conspicuous weakness too. Though the author has not eschewed numerical examples, he has avoided presenting the technical model in many places.

Thus, one does not see the purchasing power parity or interest rate parity model worked out even in its simplest form. This trait possibly explains why the book has hardly any bibliography.

Another plus""and, of course, minus""of the book is that it gives a lot of information.

So, while it can be viewed as a good compendium of foreign exchange and risk management from a practitioner's perspective, it does seem to be somewhat unattractive from the viewpoint of someone like a college student who is interested in an approach focusing on theory and its applications.

A significant aspect of the book is its treatment of risk management issues. Though we feel that too many pages have been devoted to an exhaustive treatment of the topic, the reader interested in that aspect may find it useful to have all dishes in one plate.

The book's appendices compile some good notes on accounting issues relating to risk management instruments (like the ICAI Council's notes on the equity index and all that).

That apart, the discussion, along short-term and medium-term exposures, over and above the standard trichotomous approach (transaction, translation, and economic exposures) is perhaps quite useful, though the coverage is only just enough.

We, however, feel that the author forgoes an opportunity to bring in some case-studies here (which should have been easy, given his vast experience).

This is also reflected in the fact that, though many chapters in the book have very good appendices, not even one of them talks about real-life cases, except the last chapter that details a whopping eleven on risk management (especially disasters) only!

The book is special in its treatment of innovations, be it in international capital markets or in currency options. But, it shares a weakness found in some other books in its class: lack of treatment of international trade.

For instance, save a passing reference to and a simple example of the theory of comparative advantage, there is no discussion""not even in a simple vein""of this and other trade theories.

Even technical discussion on international capital budgeting and cross-border portfolio investment, with focused numerical examples, are lacking.

Here is a microanalysis of the book, which is divided into four sections. The first section (160 pages) gives a lucid overview of the foreign exchange market in India and abroad and of the international monetary system.

This also talks about the determination of exchange rates without formally analysing the basic models.

Issues covered are the emergence of the IMF and World Bank and their current structures, different exchange rate systems, nominal and real exchange rates, structure and functioning of the international and Indian foreign exchange markets, balance-of-payment basics (briefly) and India's FEMA (Foreign Exchange Management Act).

The second section (84 pages) discusses cross-border financing as well as international debt and equity markets. It does address the corporate perspective of international financing in an interesting, though not elaborate, way.

Discussions of types of letters of credit are conspicuous by absence. Counter-trade (very briefly), raising debt in domestic and off-shore markets, international bond market and recent innovations therein, short- and medium-term loans and deposits as well as structured and equity financing in the international capital market are some of the main topics covered.

The third section (238 pages), the largest of all, gives a detailed picture of foreign exchange derivatives and their use in hedging, along with some related accounting fundamentals.

It discusses currency forwards (or forward rate agreements), currency and interest rate futures, hedging and basis risk, treasury bill and bond futures (especially in India), interest rate, currency, cross-currency, and commodity swaps, swap market in India (in some detail), currency and interest rate options and swaptions, innovations in options, basics of option pricing, binomial model, the Black-Scholes model (a good intuitive presentation), hedging using options, India's foreign currency rupee options, derivative exchanges, derivative accounting (in great detail), commodity and credit derivatives (very succinct discussion only), mathematics of fixed-income securities (especially duration and its application to swaps) are the main issues addressed.

The fourth and final section (114 pages) analyses foreign exchange risk management, an area the author is an acclaimed expert in.

Banks' identification and measurement of risks and their control, relevance of capital adequacy, Basle Committee reports, RBI guidelines, risk management perspectives and polices of corporate treasuries are taken up in this chapter.

After an interesting discussion of management of short-term and medium-term exposures by corporations, the author ends with a very detailed account of failures of risk-management, from Orange County case to the Long-term Capital Management debacle to the Enron lessons.

The book is unique, not just in general, but particularly in its structure, presentation, and focus.

We would strongly recommend the book as excellent for practitioners and for those who want a general feel of the Indian and global foreign exchange market and risk management techniques and instruments.

But, for those like MBA students with a penchant for knowing the theories in some detail, this book, though a "should/must read", has to be only "the supplement" to another full-fledged "text", at least till this book gets updated by bringing in the theoretical underpinnings.

Foreign Exchange International Finance Risk management

A V Rajwade
Academy of Business Studies
Price: Rs 390;
Pages: x+626