Banks have approached the Reserve Bank of India (RBI) to ease its forex position limit of $100 million that was announced on Friday. In a meeting that was held with the central bank on Saturday, banks have also sought an extension of the April 10 deadline to meet these conditions, sources told FE.
There are fears that the this could lead to unwinding of positions in excess of $30 billion, with some pegging the amount at around $40-$45 billion.
“Banks have requested to either extend the deadline or consider the new non-deliverable forward (NDF) positions, exempting the outstanding ones. This will help banks to curb their losses from sudden unwinding of the positions,” said a banker.
Curbing Speculation
The RBI on Friday announced that banks should ensure that their net open rupee positions in the onshore deliverable market shall be maintained within $100 million at the end of each business day. All authorised forex dealers are asked to comply with the new directive by April 10. Existing norms allow banks to set net open position (NOP) limits at up to 25% of their total capital.
According to banking sources, the move is aimed to cut down speculative long dollar positions in the market and prevent the rupee from excess volatility, said market participants. Capping open positions will force traders to unwind arbitrage trades between onshore and NDFs, leading banks to book losses.
This step is in response to the intense pressure on the rupee from elevated oil prices spurred by the West Asia war. The Indian rupee has fallen 4.2% since the beginning of the war. The currency is fast closing in on 95 against the dollar. On Friday, it breached 94 for the first time and closed at 94.82. This sharp fall on Friday has taken the year-to-date depreciation of the rupee to 10.94%, the highest in 14 years.
Unwinding trade will lead to widening of spreads between onshore and offshore market. The losses incurred by banks will depend on prevailing spreads at the time.
Liquidity Risks
“It is difficult to unwind the whole position in such a short span of time. It will severely disrupt market liquidity and ability to quote to clients, further leading to significant losses for banks,” said a dealer at a foreign bank.
Currently, some banks are holding much larger positions, making it difficult for the RBI to effectively manage the current volatility in the rupee.
Another treasury at a private bank said that the RBI has already intervened heavily, so alternative measures are needed now. “Further intervention would further erode reserves, with broader implications on system liquidity as well,” said a treasury head at a private bank.
Treasury officials pointed out that certain players were leveraging arbitrage with massive open positions, complicating the RBI’s efforts to manage rupee volatility. With this move, the interventions are likely to become more effective, and help them to better manage the volatility.
Market participants said that the rupee will appreciate followed by the unwinding of this positions, however, sustainability will be a challenge due to the ongoing crisis.