- RBI curbs prompt banks to withhold dollar-forward quotes - bankers
- Thinner liquidity widens spreads and amplifies price swings
- Clients shift to NDF market on fears onshore hedging costs may rise
MUMBAI, Oct 13 (Reuters) - A series of tough regulatory steps by the Indian central bank, aimed at supporting the rupee, is leading to unintended consequences, with several lenders holding back on quoting dollar-rupee forwards, according to eight bankers.
The measures and a heightened scrutiny of dollar purchases have led to uncertainty about the scope of the new rules and whether more curbs may be in the offing, the bankers said.
Since Saturday, the RBI has rerouted oil dollar demand to a special facility, imposed a cash margin for derivatives used to hedge some merchant transactions and subsequently extended the margin to banks hedging their own assets and liabilities. The RBI has also told banks to offer non-deliverable contracts to clients only for protecting underlying exposures.
The curbs followed a drop in the rupee to near record lows of 96.96 against the dollar last week, despite the central bank raising interest rates for the first time in nearly four years. After the measures, the currency has recovered to 95.25.
"The Reserve Bank of India has moved from signalling that the rupee’s weakness may be excessive to directly restraining dollar demand and speculative activity in the FX market," said Mitul Kotecha, head of FX & EM macro strategy Asia at Barclays.
"Such measures can influence the timing, venue and cost of dollar demand, but they cannot eliminate genuine demand generated by trade, hedging requirements or capital outflows," he said.
The RBI did not respond to an email seeking comment on its moves and the market reaction.
UNINTENDED CONSEQUENCES
On Tuesday, at least eight large lenders, spanning state-run, private and foreign banks, held back from quoting dollar/rupee forwards in early trading, according to conversations with Reuters reporters.
The reluctance stemmed from a circular from Monday night, which mandated banks to build a risk reserve for rupee derivative contracts used to hedge the currency risk on their own assets and liabilities. The circular says the margin is applicable for all rupee derivative contracts for which lenders purchase foreign currency.
Bankers interpreted the provision as extending the margin requirement to interbank transactions, prompting them to reconsider quoting dollar/rupee forwards.
However, a person familiar with the RBI's thinking said this interpretation was incorrect, adding that derivatives for market-making or trading were outside the scope of the circular.
Three of the eight banks resumed quoting forwards following a bilateral clarification from the RBI, according to the bankers. Other currency traders said they would wait for official communication before resuming interbank quotes.
With banks holding back, dollar-rupee forward volumes dropped, bid-ask spreads widened, triggering sizeable market swings. Client activity migrated to the non-deliverable forward market on concerns that onshore protection could become more expensive, a banker at a large foreign bank said.
All the bankers wanted to be anonymous since they are not authorised to speak to media.
INCREASED SCRUTINY OF TRADES
The curbs coincide with increased scrutiny of dollar demand, the bankers said, pointing to the RBI's queries about derivative transactions on Monday.
While some banks facilitating large dollar purchases received calls from the central bank, others were asked to submit client transaction details over email, the bankers said.
The regulator sought granular details about client requirements, one banker at a foreign lender said.
The RBI routinely engages with lenders, but the ongoing scrutiny has been more in-depth, another banker said.
Despite a recent recovery, the rupee is down about 6% this year, lagging behind most Asian peers, due to pressure from high crude prices and capital outflows.
MUFG, which expects the rupee to gradually fall to 97.50 by the September quarter next year, expects more measures if the rupee were to weaken further.
"Ultimately for the underlying pressure on rupee to ease, this would require changes in underlying fundamental flows in India," Michael Wan, senior currency analyst at MUFG, said in a note.
Reporting by Nimesh Vora and Jaspreet Kalra; Editing by Mrigank Dhaniwala
Source: Reuters