RBI likely to take delivery of the dollar-rupee sell buy swap on Mar 11
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Premiums on one-year dollar/rupee forward contracts fell to their lowest level in eleven weeks on Wednesday to 1.65 per cent, the lowest since December 11, 2023.
Premiums have been falling for the past few trading sessions as the rate cut expectations by the US Federal Reserve are being pushed back, and traders are taking positions ahead of the $5 billion dollar-rupee sell/buy swap maturing on March 11 of the current year, said market participants.
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The premiums on one-year dollar/rupee forward contracts have declined by 22 basis points in February so far, due to the shift in rate cut expectations, initially anticipated for March but now postponed to May, with the likelihood of a rate cut in May also diminishing. The premium had settled at 1.67 per cent on Tuesday.
Consequently, the yield on the benchmark 10-year US Treasury bond rose by 33 basis points in the same period.
According to CME’s FedWatch tool, investors are now expecting an 81 per cent probability of the US rate-setting panel maintaining the current rates in May, a notable increase from the 65 per cent estimate observed a week ago.
“The forward premium is mainly influenced by the interest rate differential between the US and India. The 10-year bond yield in India is now 7.06 per cent and in the US it is 4.29 per cent. This shrinking rate differential is causing the fall in forward premium,” said V K Vijayakumar, Chief Investment Strategist at Geojit Financial Services.
Additionally, traders expect the Reserve Bank of India (RBI) to take delivery of the $5 billion dollar-rupee swap, leading to a shortage of dollars in the system.
“The Reserve Bank of India swap of $5 billion is maturing on March 11. The market is expecting that the RBI will take delivery of Dollars due to tight rupee liquidity conditions, which may lead to a shortage of dollars in the market. Hence, good receiving is happening in forward premiums,” said V R C Reddy, head of treasury at Karur Vysya Bank.
If the central bank opts to receive the forward dollars, it would withdraw $5 billion from the financial system while injecting approximately Rs. 400 billion of rupee-denominated liquidity, based on prevailing exchange rates.
In March 2022, the central bank had engaged in a $5 billion sell/buy swap, selling dollars while agreeing to repurchase the same amount at the swap’s end. This move aimed to extend the maturity profile of the forwards book and streamline receivables tied to forward assets.
As the swap approaches maturity, the RBI faces a decision to either accept delivery of the forward dollars or initiate a new swap. Some traders speculate that the RBI could opt to accept delivery of a portion of the forward dollars and roll over the remainder.
The latest data shows India’s foreign exchange reserves at a comfortable $616 billion as of the week ended February 16, sufficient to cover more than 10 months of imports projected for 2023-24 and more than 97 per cent of the total external debt outstanding at the end of September 2023.
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