Cancellation of Forward Contract

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Concept of Cancellation of Forward Contract

If due to some uncertain events or reasons, if forward contract can not be executed then it is cancelled. There are so many events that may cause cancellation of forward contract and one of them is Extension or Rollover.

Do remember, in market, to nullify a position, you have to create opposite position. Like if you are in buying position then you have to sell and if you are in selling position then you have to buy.

Here to understand the concept of cancellation of forward contract you must have the knowledge of various concept of foreign exchange market like Exchange Margin, Inter-Bank Market, Bid Rate and Ask Rate.

I will use all these terms (Exchange Margin, Inter-Bank Market, Bid Rate and Ask Rate) to make you understand this concept of cancellation of forward contract.

Rule 6 FEDAI

I. Recovery/ Payment of Loss /Gain
a) In case of cancellation of a contract at the request of a customer (if the request is made on or before the maturity date) the Authorized Dealer shall recover/ pay, as the case may be, the difference between the contracted rate and the rate at which the cancellation is effected.


b) The process of recovery of exchange difference on cancellation of forward contracts on or before the maturity date will be as follows:
i) The recovery can be either in lump sum or in installments.
ii) Repayment period should not extend beyond the maturity date of the contract.
iii) The repayment installments should be uniformly received over the remaining maturity of the contract and its periodicity should be at least once in a quarter


c) The banks should have Board approved policy to deal with recovery and payment of exchange difference and other charges on above lines. The details should be made available to the customers transparently on upfront basis.


II. Rate at which cancellation is to be effected
a) Purchase contracts shall be cancelled at TT selling rate of the contracting Authorised Dealer
b) Sale contracts shall be cancelled at TT buying rate of the contracting Authorised Dealer
c) Where the contract is cancelled before maturity, the appropriate forward TT rate shall be applied.


III. Notwithstanding the fact that the exchange contract between the customer and the bank becomes impossible for performance, for whatever reason, including Government prohibitory orders, the exchange contract shall not be deemed to have become void and the customer shall forthwith apply to the Authorised Dealer for cancellation, as per the provisions of paragraph 6.4(i) and (ii) above.


IV. a. In the absence of any instructions from the customer, vide para 6.1(ii), a contract which has matured shall be cancelled by the bank within the three working day after the maturity date.
b. Swap cost, if any, shall be recovered from the customer under advice to him.
c. When a contract is cancelled after the maturity date, the customer shall not be entitled to the exchange difference, if any, in his favour, since the contract is cancelled on account of his default. He shall, however, be liable to pay the exchange difference, against him.

Example 1

Mr. Vineet entered into a forward contract with a bank to sell $10,000. Following are the details of the contract-

Contract Due Date – December 31st 2019

Contract Rate – 1$ = ₹ 70.80

Later, on the due date i.e. December 31st 2019 Mr. Vineet requested to bank to cancel the forward contract and the following details are available-

IB Rates on December 31st 2019- Spot 1$ = ₹ 71.05 – 72.50

Exchange margin .09% on TT Buying and .14% on TT Selling

Find out the rate at which bank will cancel the contract.

Ans: –

Here, Mr. Vineet entered into a forward contract to sell $10,000 to Bank. To fulfil this requirement bank will enter into IB Market to sell $ 10,000 on forward basis on Bid Rate (The rate at which market want to buy).

Now, in case of cancellation on December 31st 2019, Bank will create an opposite position to cancel the contract.

Position in Original Contract – Sell (on Bid Rate)

Position for cancellation – Buy (on Ask Rate) (Opposite of Original Position) That means relevant rate for cancellation is Ask Rate i.e. 1$ = ₹ 72.50

Step-I: – Calculation of Cancellation Rate (December 31st 2019)

Relevant Rate                                      1$ =   ₹ 72.5000

(+) Exchange Margin (.14%)                          ₹ 00.1015

                                                                          ₹ 72.6015

Step-II: – Calculation of amount payable/recoverable from customer

(a) Contracted Rate                                       1$ =   ₹ 70.8000

(b) Cancellation Rate                                    1$ =   ₹ 72.6015

Net amount recoverable from customer = (a – b) * $10,000

=  (72.6015 – 70.80) * $10,000 = ₹18,015

Example 2

Mr. Vineet entered into a forward contract with a bank to buy $10,000. Following are the details of the contract-

Contract Due Date – December 31st 2019

Contract Rate – 1$ = ₹ 70.80

Later, on the due date i.e. December 31st 2019 Mr. Vineet requested to bank to cancel the contract and the following details are available-

IB Rates on December 31st 2019- Spot 1$ = ₹ 71.05 – 72.50

Exchange margin .09% on TT Buying and .14% on TT Selling

Find out the rate at which bank will cancel the contract.

Ans: –

Here, Mr. Vineet entered into a forward contract to buy $10,000 to Bank. To fulfil this requirement bank will enter into IB Market to buy $ 10,000 on forward basis on Ask Rate (The rate at which market want to sell).

Now, in case of cancellation on December 31st 2019, Bank will create an opposite position to cancel the contract.

Position in Original Contract – Buy (on Ask Rate)

Position for cancellation – Sell (on Bid Rate) (Opposite of Original Position)

That means relevant rate for cancellation is Bid Rate i.e. 1$ = ₹ 71.05 

Step-I: – Calculation of Cancellation Rate (December 31st 2019)

Relevant Rate                                      1$ =   ₹ 71.0500

(-) Exchange Margin (.09%)                          ₹ 00.0639

                                                                         ₹ 70.9861

Step-II: – Calculation of amount payable/recoverable from customer

(a) Contracted Rate                                       1$ =   ₹ 70.8000

(b) Cancellation Rate                                    1$ =   ₹ 70.9861

Net amount payable to customer = (b – a) * $10,000 = ₹ 1,861

I hope you understand this concept. If you have any doubt or suggestion then please leave your comment below. I will try to reply you with more information.

For better understanding of this concept you should also read about currency forward contract.


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