Forex Investment and Currency Trading

Description

An FX Daily range Accrual Note / Deposit accrues an enhanced yield on each business day for which the reference FX spot rate fixes within a predefined range. For each day that the reference FX spot rate fixes outside the predefined range, the note accrues at a prescribed minimum yield (often zero). Any accrued interest is paid on the periodic interest payment dates (typically semi-annually, quarterly, or monthly) or at the end of the investment period. FX Daily Range Accrual Notes / Deposits are principal protected.

Application

This low-risk strategy enables the company (the note holder) to potentially earn an enhanced yield based off a view on future FX rates. In the example below, the company could earn up to 4.5% (or 1.05% higher than a vanilla deposit) depending on daily GBP/SGD 2.9600 – 3.0400 over the 6 month terms of the deposit:

• The company will earn a yield greater than the equivalent money market return if spot FX fixes within the range on more than 96 out of 128 (or 75%) of the business days within the 6 month term.
• The risk to the company is that spot FX fixes consistently outside the accrual range. If this occurred for the entire period, the company will receive only the minimum guaranteed return of 0.50%.
• The accrual range is typically set symmetrically around spot. As such, the further the outright FX forward rate is from spot, the higher the probability of the boundaries being  exceeded and hence a greater potential yield enhancement or wider range.
• Similarly, the higher the FX volatility, the higher the yield enhancement and / or wider range.

Variations

• Partial accrual is possible where the accrual stops completely once a range boundary is broken, but all previous interest accruals are kept.
• The accrual can occur on weekly or monthly fixings, instead of daily.
• The structure can be in Quanto form, where the range accrual occurs based on a currency pair that is different from the denomination of the underlying note and payoff. For example, accruals for a SGD-deposit based on USD/JPY fixings. This is known as a Quanto Daily Range Accrual.
• Additional narrower “slices” can be added to boost the potential return.
• A common variation is to add an extra range accrual tranche based on an interest rate index such as 6 month LIBOR.