Worse is yet to come in forex derivative losses

The crisis is also expected to trigger plenty of litigation.

The $50 million hit L&T took due to hedging losses in a subsidiary may just be the tip of the iceberg.

Losses by Indian companies as a result of their exposure to the foreign exchange derivatives market may hog the headlines for next few quarters since many of the currency swaps are likely to mature after March, said foreign exchange experts.

"This is a big thing brewing. The losses in some cases may be equal to a company’s profit for the whole year," said a senior executive with a Mumbai-based foreign exchange consultant, who did not want to be identified.

For example, Hexaware reported a Rs 81-crore loss for the quarter ended December 2007 after the company took a hit of about Rs 103 crore on account of unauthorised forex derivative deals struck by a company official.

The company had posted a net profit of Rs 110.07 crore in 2007 (the company follows a January to December financial year).

"Corporate India’s exposure is large. Banks have sold these derivatives to both small and big companies. However, many of these positions are maturing after March, and so companies are not required to reveal their losses this fiscal. The losses will be reflected in Q1 and Q2 of next fiscal,’’ added the expert.

Jamal Mecklai, CEO of Mecklai Financial, said he had estimated the losses to be $1billion (Rs 4,000 crore) though some others estimate it at $3 billion. "That is quite large. Today, I heard of a company that has an exposure of Rs 50 crore in forex derivatives on a topline of Rs 150 crore," he said

The crisis is also expected to trigger plenty of litigation since corporations think banks have mis-sold them all kinds of derivatives. In one such case, a paper and stationary manufacturer Sundaram Multipaper has sued ICICI Bank for its losses on forex derivative products.

"Many corporations have complained to the Reserve Bank of India, and you will have a lot of litigation. These are not just currency swaps. Banks have sold more exotic and complex structures to people who have not understood these trades," said another forex consultant who also requested anonymity.

A V Rajwade, a Mumbai-based consultant on risk management, said margins in plain vanilla trading are nominal where prices are readily available on screen.

"This is perhaps why banks have sold complex derivative products to companies. Some companies don't understand them; some are greedy," he said

Many companies don't have the discipline in marking their assets to market or imposing a stop-loss on their trades.

"Many of them do not understand the difference between hedging and reduction in cost or risk. This has led to a lot of problems in the market," Rajwade added.

Mecklai said the problem lies India's "slow and backward" accounting standards. "In other countries, you have to provide mark-to-market losses. Here, you can carry them forward till 2011. The accounting standards have to be tightened. Today, a lot of companies and banks are in battle but you need two hands to clap."

Almost all private banks—Yes Bank, ICICI Bank, HDFC Bank, Kotak Mahindra Bank— and even State Bank of India have sold these derivative structures, and can potentially be hit if companies do not pay.

"Banks are worried that they may have to pay upfront if these cases get into litigation," said a forex consultant.

The stock market may not be aware of the impending crisis and yet, banking stocks have come under selling pressure when everyone was hoping they would provide succour in a falling market.

The BSE Bankex has shrunk 30 per cent from January 8, 2008, when the benchmark BSE Sensex touched a high 20,873.33, faster than the market that has lost 23 per cent of its market cap since then.