Wary of RBI, banks back off from forex deals
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The banks, using the easy rupee liquidity created after the inflow of deposits from the diaspora, bought dollars and invested the funds in US Treasury bills to earn higher returns. The transaction involved a buy-sell swap, where banks purchased dollars in the spot market and sold dollars in the forward market. The dollars generated through the swaps were deployed in US government papers, whose yields have risen in the past three months.
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Loading...×Mumbai: Some large banks have backed off from foreign exchange swap deals they had entered into, or were about to undertake, after sensing that such transactions would not go down well with the Reserve Bank of India (RBI).The banks, using the easy rupee liquidity created after the inflow of deposits from the diaspora, bought dollars and invested the funds in US Treasury bills to earn higher returns.
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The transaction involved a buy-sell swap, where banks purchased dollars in the spot market and sold dollars in the forward market. The dollars generated through the swaps were deployed in US government papers, whose yields have risen in the past three months.
Banks were flush with rupee liquidity in the wake of the $132 billion mobilisation of foreign currency non-resident (FCNR) deposits: they received rupees by swapping FCNR dollars with RBI. Under the arrangement, the central bank absorbed the entire cost of hedging the currency risk on the principal amount.
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The buy-sell swap in the interbank market fetched banks a combined return: yield from US Treasury bills and premium in the forex forward market. Premium (expressed as a percentage or in paisa) is the amount by which the USD/INR forward rate exceeds the spot rate. A bank that sells dollars forward receives the premium.
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"With the one-year forward premium then at over 4.5% - though it came down on Monday - and US Treasury bill yields hovering around 4.4%, the gross return was close to 9%. Now, it is possible that RBI may not encourage such transactions. After all, banks received INR after swapping FCNR dollars, and since RBI is bearing the currency risk, it may ideally want banks to use the INR for lending instead of carrying out buy-sell swaps to place dollars abroad," said a banker.
Some banks, three persons told ET, received such feelers from RBI. However, this could not be officially confirmed; emails and text messages to an RBI spokesperson went unanswered till the time of going to press.
According to a senior private-sector bank official, the regulator may not be against such swaps per se. In fact, buy-sell swaps would soften forward premiums (as more banks sell forward) and lower hedging costs for importers. So, the regulator is unlikely to have any reservations if dollars generated through buy-sell swaps are lent to corporates as trade finance or even deployed abroad for a very short duration, he said.
It may be recalled that during the 2008 financial meltdown, RBI spotted that some foreign banks were using local rupee resources to undertake similar buy-sell swaps and placing the dollars with their overseas parent entities, which were struggling for funds in frozen international money markets. At that point, RBI had imposed limits on the portion of a foreign bank branch's local capital and deposit base that could be lent to or placed with its head office or overseas correspondent banks.
Significantly, in the current situation, the high forward premium that encouraged some banks to undertake such swaps was partly driven by RBI's interventions to manage domestic liquidity conditions. "What contributed to the higher forward premium in the current situation was the sell-buy swaps that were subsequently conducted by RBI to manage rupee liquidity," said another banker. RBI carried out sell-buy swaps -- selling dollars (to absorb INR) and buying dollars forward -to soak up some of the rupee liquidity in the banking system.
"With RBI's dollar purchases in the forward market supporting the forward premium, some banks saw it as an opportunity to cash in and manage their books," he said.
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Figures reflect the source report and its stated period. This article is for information and is not investment advice.
