HOW TO INVEST IN THE FORWARD MARKET MARKETS

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1 HOW TO INVEST IN THE FORWARD MARKET MARKETS

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3 What? is a FORWARD TRANSACTION It is the purchase or sale of a specific number of shares, at a fixed price, for delivery at a specified future date as of the transaction date, which will result in a contract between the parties. BOVESPA S FORWARD MARKET The term of the contract is predetermined. The terms permitted for forward trading are a minimum period of 16 days and a maximum period of 999 calendar days. Underlying security is the share being traded forward. All the shares traded on BOVESPA can be traded forward. PRICES ON THE FORWARD MARKET The forward price of a share is the result of adding to the cash market quoted price, a value corresponding to an interest rate - freely fixed by the market - for the period of the contract. TRADING ON BOVESPA S FORWARD MARKET Carrying out a forward transaction is similar to doing the same on the cash market, requiring the intermediation of a Brokerage Firm that will close the operation, in a trading session, through one of its representatives. It is possible to follow the progress of forward deals, during the whole trading session, through BOVESPA s network terminal. Soon after the closing of the trading session, relevant information about forward transactions can be found in BOVESPA s BDI - Daily Information Bulletin, in newspapers of wide circulation and in BOVESPA s site ( Markets How to Invest in the Forward Market 3

4 GUARANTEES Each forward transaction requires a guarantee deposit with the Companhia Brasileira de Liquidação e Custódia - CBLC (the Brazilian Clearing and Depository Corporation), the company liable for the settlement and risk management of all the operations traded on BOVESPA. The Clearing Agent and the Brokerage Firm responsible for the forward transaction may ask their clients to deposit additional guarantees besides those required by the CBLC. These guarantees are given in two ways: cover and margin. COVER A forward seller who holds the underlying securities can deposit them with CBLC, as a guarantee of his liability. This deposit, called cover, frees the seller from the obligation to provide other additional guarantees. MARGIN The initial margin required is equal to the difference between the security s cash price and its forward price, plus the difference between its cash price and the lowest theoretical cash price, estimated for the next trading session based on the security s historical volatility. CBLC analyses the stocks volatility and liquidity, and also the general conditions of the issuing companies, and classifies the stocks in different margin intervals. In general, the stocks with greater liquidity and lower volatility are in the smaller margin intervals. Periodically, there is a revaluation of the stock/company s indicators, which can eventually classify the stock in another margin interval, more suitable to the stock s new market condition. ADDITIONAL MARGIN Everytime there is a decrease in the contract s collateral value, resultant from the variation of the stocks deposited as margin and/ or the underlying stocks, it will be necessary to increase the initial guarantee, which can be made by a cash deposit or other assets authorized by CBLC. RIGHTS AND BENEFITS Rights and benefits distributed to the shares underlying the forward contract belong to the buyer and will be received together with the underlying shares on the settlement date or according to rules set forth by CBLC. 4 How to Invest in the Forward Market Markets

5 SETTLEMENT The settlement of a forward transaction upon expiration of the contract or before it, as the buyer may wish, implies the delivery of the securities by the seller and the payment of the agreed price by the buyer. This settlement is carried out at CBLC, under its guarantee, audit and control, which ensures the meeting of liabilities in accordance with what was agreed upon by the parties on the trading session. according to the table of fees announced by BOVESPA and by the CBLC. Trading Charges Percentage figure charged on the total value of the forward contract, according to the table of fees announced by BOVESPA and by the CBLC. Taxation Income Tax - payable on all operations, with different rates for financial and non-financial operations. TRANSACTION COSTS In carrying out a forward operation, an investor incurs the following costs (due only at the opening of operation): Brokerage Fees Calculated on the value of the deals closed in the trading session and freely negotiated between the client and the Brokerage Firm. Registration Fee Calculated on the total value of the forward contract and charged according to the table of fees announced by BOVESPA and by the CBLC. Settlement Fee Calculated on the total value of the forward contract and charged FORWARD DENOMINATED IN DOLLAR This modality of forward contract has the same characteristics as the traditional forward in Reais; the only difference is that the traded price in Reais will be denominated in the exchange rate Reais/US Dollar (Ptax*). For the definition of the contract s US Dollar amount, the Ptax of the trade s day is used. On the request of settlement, the Ptax of the date of settlement order is used, both for the case of early settlement and settlement by difference. For settlement on the expiration day, the Ptax of the immediately previous day is used. (*) Official exchange rate calculated and disclosed by the Central Bank of Brazil. Markets How to Invest in the Forward Market 5

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7 BOVESPA'S Forward Market: Dealing Strategies WHY BUY FORWARD? The main advantages of this type of operation consist in allowing the investor to hedge buying prices, diversify risks, obtain funding and improve gains. HEDGING An investor that expects a rise in the price of a share, or on a group of shares, can buy forward, fixing the price and benefiting from the price rise. He can do this because, although he does not have enough money available, at the moment, to buy the desired lot, he expects to receive funds within the period of the operation he has contracted. DIVERSIFYING RISKS An investor wishes to buy shares whose price he believes to be depressed, nevertheless, he does not wish to concentrate all his funds in just one or two securities, so as not to take on higher risks. For instance, he buys forward four more attractive securities, paying out only the margin. This diversification involves lower risk than an investment in the stock of a single company, since the possible loss on one share can be offset with gains on the other three. RAISING FUNDS - CASH OPERATION For holders of a stock portfolio who need funds for a short-term investment, but do not wish to sell any shares, there is the alternative of selling cash and immediately buying forward the same security. This allows the investor to receive cash and, at the same time, maintain his share holding in the company. Markets How to Invest in the Forward Market 7

8 LEVERAGE Forward buying provides the investor that, at a given moment, has a certain amount of funds available, the possibility of acquiring a number of shares superior to what his available cash would allow him to buy at that moment, providing a higher return if the cash prices rise. WHY SELL FORWARD? Especially to obtain additional income. To Finance In this type of operation - financing - the investor buys shares on the cash market and sells them forward, with the objective of earning the difference between the cash and the forward prices, in other words, the interest on the operation. To Increase Income Having taken the decision to sell a share - without the immediate need for the proceeds - an investor can sell forward, maximizing his gains, since he will receive interest for the period as well as the cash price of the share. This period, the contract term, will be chosen by the forward seller, according to his investment program and his knowledge of future alternatives. ADDITIONAL STRATEGIES Besides those presented in this leaflet, more sophisticated strategies can be set up with the help of a Broker. For example: Selling Forward and Buying Call Options The purpose of this strategy is to hedge the forward seller who does not own the shares. By acquiring a call option on the shares he has sold forward, the investor who expects the market to fall is hedging against an unexpected rise in the cash market. Buying Forward and Selling Call Options With this strategy, the investor can profit from the different levels of interest rates between the two markets and, if the call option is not exercised, reduce the purchase cost of the securities. Hence, he can guarantee meeting the possible exercise of the option through the settlement of the forward contract. 8 How to Invest in the Forward Market Markets

9 What is the Forward Transaction EXPRESSED IN POINTS? As in the traditional system, the forward transaction expressed in points consists in buying or selling a specific amount of shares at a fixed price, for delivery at a determined date as of the date of the transaction. It is different from the traditional forward market in the following aspects: the price agreed on between the parties is converted into points and adjusted according to the indicator established by the parties, which may be chosen among the ones authorized by BOVESPA; forward contracts in points are traded on the secondary market; they can be traded only in roundlots (adopted in cash operations with the security) and their multiples; the rights for dividend, cash dividend or any cash payment, and subscription rights on securities will not alter the price of the contract. However, the seller will transfer to the buyer, in cash, the value equivalent to the cash benefit, at the date of the actual distribution; in the case of stock dividend, reverse splits or splits, the amount of stocks contracted will be proportionally adjusted, and the original financial agreement will remain unaltered. Excepting what was described above, the procedures and other characteristics of Forward Transactions expressed in Points are identical to the ones used in the Traditional Forward Market. Markets How to Invest in the Forward Market 9

10 ATTENTION This publication is provided for information purposes only, not consisting in an investment advice. This is not an offer or solicitation of investment in any securities listed at BOVESPA. To find out more information, contact an authorized intermediary. They can assist you to evaluate the risk and potential benefits of investing in the capital markets. Non-residents in Brazil may be subject to country-specific restrictions. Reproduction or retransmission of the contents of this publication without prior written permission from BOVESPA is prohibited. January/ How to Invest in the Forward Market Markets

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