Rbi Keeps Forward Market In Check

The Reserve Bank of India (RBI) had actively intervened in the forward foreign exchange market last week to curb arbitrage opportunities existing in inter-bank markets and maintain a stability of domestic interest rates at current levels.

According to market sources, the whole of last week witnessed heavy interventions by the RBI through sell-buy swaps. To be precise, dollars were sold in the forward market, to be bought back at a future date.

In this way, there was dollar demand created in the forward market, which was one of the reasons for the forward premium to go up. This week also the RBI is understood to be intervening in the forward market, but in smaller quantities.

 

Much of the swaps, market sources added, happened in the near term of the maturity, thus putting pressure on the forward premium on dollar.

In addition to this, dollar demand from corporates and banks to cover open positions pushed up the one month and three-month forward premium from 0.86 per cent and 1.03 per cent during end of May to around 3.16 per cent and 2.72 per cent respectively. On the other hand, one-year premium has moved up from 1.34 per cent to 1.81 per cent for the same period.

As a result of this, the forward premium yield curve currently figures inverted with one-month and three-month forward dollars commanding the highest premiums compared with a one year tenor.

Market sources said the RBI usually intervenes in the spot rupee dollars market from preventing excess appreciation of rupee to dollar and the intervention in the forward market is not as frequent as in the forward.

Dealers said this intervention has been successful in curbing the arbitrage opportunities in the inter-bank market. This is because the dollars getting converted into rupees for being invested in rupee deposits or in short-term treasury bills have to be booked with the forward cover. The same goes for ECB loans where the borrower has to take a cover of forward premium while calculating the overall costs.

Therefore, if the forward premium rules high, the cost competitiveness of currency conversion to enjoy the arbitrage gets reduced and only genuine demand remains.

The gilts market has been subdued even though there is enough liquidity and part of the reason is attributed to the lack of arbitrage, said dealers. Similarly, FII investment in debt market which reached record levels in May has been moderate for the month of June till now.

Dealers also added the funds which is pouring into India are primarily FII inflows and NRI deposits. Part of it being completely repatriable in nature, the very nature of fund flow adds to the volatility in the market, thus creating artificial buoyancy.

According to them, curbing this was also one of the objective keeping a long-term view. This is because, the arbitrage opportunities will be rife once the US Fed cuts its prime rate.