MUMBAI: Large companies striking synchronised arbitrage deals that weaken the rupee have caught the Reserve Bank of India’s scrutiny. A few weeks ago, the regulator told four overseas banks to refrain from participating in such transactions that otherwise come across as normal foreign currency deals but end up building short, speculative positions on the rupee.
Corporates with sophisticated treasury and offices, subsidiaries or special purpose vehicles in offshore markets such as Singapore, London and New York carry out these paired foreign exchange deals. The company concerned will buy dollars (and sell rupees) in Mumbai and do a reverse transaction using surplus cash or a credit line taken by one of its outfits abroad.
Both deals are cut with the same bank – the corporate buys dollars from the Mumbai branch of a foreign bank and sells dollars from its Singapore office to the same bank there. While the transaction in Mumbai takes place in the local and regulated one-month forward market, the Singapore leg of the deal happens in the non-deliverable forward (NDF) market, an unregulated, offshore market that has had a severe impact on the rupee in recent times.
These apparently unconnected trades allow companies to profit from the arbitrage in forward trade in the two markets. But forward trades such as dollar buying weakens the spot rupee as well.
“RBI has been looking at ways to curb the impact of the NDF market on the spot rupee. It has changed its intervention style and some months ago directed foreign institutional investors (FIIs) to take clients’ permission before doing such trades,” said the forex market head of a large bank. “FIIs were using a slice of their portfolio, which is clients’ money, to buy forward dollars in India. This is because non-banks can do forward forex deals in India only if there is an underlying. Here, the client’s portfolio served as the underlier.”
In NDFs, deals are settled in cash and no actual dollar delivery happens after a month, as the rupee is a non-convertible currency and cannot be delivered abroad.
In the past one year, trades by debt FIIs had fuelled volatility in the forex market. They bought debt securities in India, entered into a one-month forward trade in the local market and built a reserve position in the NDF market. They made sudden exits to make a killing on the currency; often, the money made in the currency trade was far more than what they lost to a lower bond price in India.
While RBI’s directives had reduced such trades by FIIs, there was very little the regulator could do when similar transactions were made by Indian companies that have sizeable exports, imports and foreign loans that can be shown as a genuine underlying basis for forward transactions (in the NDF market, participants do not need any such underlying basis for trades). Instead of raising the issue with companies, over which the central bank has no direct jurisdiction, senior RBI officials verbally cautioned a handful of MNC banks that they believed acted as counter-parties in deals with corporates.
RBI frowns on US dollar arbitrage deals by large companies
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