Hedgers line up to gain from crash in forwards after RBI's swap facility

Importers and foreign currency loan borrowers have increased their hedging, taking advantage of the crash in forward premium after the Reserve Bank of India (RBI) offered $5-billion swap facility with banks, according to currency dealers.

The one-year forward premium for dollar-rupee was 4.11 per cent a month back, and 4.05 per cent a week back, but is now at 3.57 per cent.

The premiums are likely to rise as more companies come forward to hedge. Forward premium is the fee a supplier of dollar takes to commit to supply dollar at the end of the agreed period.

The central bank said last week that it would swap up to $5 billion of three-year dollars with banks. The intention is to supply rupee liquidity into the system.

Most of the hedging is happening on long-term external commercial segment (ECB), said currency consultants.

“We are observing increased hedging in the medium- to long-term ECB segment,” said Samir Lodha, managing director of QuantArt Markets Solution, a treasury management firm.

“The RBI move helps ECB hedgers since their forward premium impact is significant. For regular importers with three to four months import cycle, the RBI swap impact is immaterial at 8-10 paisa,” Lodha said.

According to Lodha, so far, importers have been relaxed with the appreciating rupee, but it may not remain the same after elections and the importers should take advantage of the strong spot movement from 71 to 69 a dollar to hedge.

The time, though, is not so advantageous for exporters, but they also have enjoyed a good show last year when the rupee rapidly depreciated to reach its life time low of 74.15 a dollar in October.

Currency dealers are advising their importer clients to buy forwards as much as possible at the present level, while telling exporters to not enter the market if they can afford to do so. The idea is that rupee would soon fall to 71 a dollar once the elections are over.

Rupee’s stability, and appreciation in recent times have also encourage foreign portfolio investors to pour in their money without hedging, currency dealers say.

“They are coming without any hedging. Corporate bond yields are offering attractive return and there is a view that even if rupee depreciates, it won’t be more than 2-3 per cent, which is lower than the hedging cost, but that is dangerous tactics to take as the RBI can change tactics anytime,” said a treasury head of a private sector bank. 

So far in March, FPI’s investments in Indian markets have been strong. In equity, they have put in $2.44 billion, and in bonds they have invested $833 million, on a net basis.

The voluntary retention route (VRR), which cuts down holding period to one year from three years earlier, have been a major draw for the money.

High bond yields (or lower price) at entry point, and low yields (or higher price) at exit points is what lures the investors in the fixed income paper. The bond market has managed to hold steady due to unprecedented secondary market bond purchases by the RBI. At more than Rs 2.8 trillion, the purchases have been about 72 per cent of the net borrowing of the fiscal, but that may not be enough. More OMOs could be needed to keep bond yields in the lid, and dollar swap facility to infuse liquidity may not be a substitute, according to Soumyakanti Ghosh, chief economic advisor of State Bank of India group.

“Frictional liquidity is substituting durable liquidity, which should never be the case. Durable liquidity can substitute frictional liquidity, but not the other way round. Against this, frictional liquidity injection through repo has more than compensated for the variation in government cash balances,” Ghosh said.

The government usually builds up huge cash balances with the RBI as tax money pours in. This gets spent much later, and in between creates liquidity crisis, particularly at the end of every quarter.

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