Banks have requested the Reserve Bank of India (RBI) to increase transaction limits for foreign participation in certain rate derivatives, which have seen heightened activity since JP Morgan announced the inclusion of local bonds in its Emerging Market Bond Index, sparking a global rush for exposure to rupee debt, said people familiar with the development.
“The available investment limits for foreign participation in rupee interest rate derivatives have come down sharply over the past few months and are now close to being exhausted. Banks have asked the RBI to increase the limit for outstanding positions from the current limit of ₹350 crore,” said one of the persons, who did not wish to be identified.
ET’s queries emailed to the RBI did not elicit a response till press time.
According to a directive issued by the RBI in 2019, overnight index swap (OIS) transactions by non-residents with market-makers for purposes other than hedging interest rate risk are subject to an overall limit of ₹350 crore for the price value of a basis point (PVBP) of all outstanding positions.
PVBP refers to the change in price of a debt instrument if its yield changes by one basis point or 0.01%.
As of July 10, the available limit for non-resident transactions in interest rate derivatives was ₹11.3 crore, according to Clearing Corporation of India (CCIL) data.
Banking executives said that discussions had also taken place between some banks and the CCIL on whether some transactions could be unwound to free up limits, especially since the limit is calculated on a gross basis.
In March 2019, the RBI had operationalised participation by non-residents in rupee interest rate derivatives markets. Subsequently, overseas entities were permitted to undertake OIS transactions for purposes other than hedging with banks in India, either directly or on a back-to-back basis through a foreign counterpart of the market-maker in India.
While the swaps are settled in rupees, the proceeds are converted into US dollars.
Overseas Rush
CCIL data showed that the exhaustion of available investment limits – which implies greater utilisation of the derivative instrument by foreign players – has been marked since September 2023, when JP Morgan announced India’s inclusion in its index. Between September 2023 and July 10, 2024, investment limits declined 80% to ₹11.33 crore from ₹59.6 crore.
Apart from hedging interest rate risk, the OIS instrument, which uses government bonds as the underlying, is a means to take a bet on the direction of interest rates.
Given the hefty foreign flows into Indian debt after the JP Morgan index inclusion and the country’s firm macroeconomic fundamentals, overseas players have been stepping up exposure to the domestic market on the view that bond yields and swap rates would ease.
Since the announcement of index inclusion in September last year, foreign investors have bought more than $11 billion of fully accessible Indian government bonds.
“The participants in the non-resident derivatives market include foreign banks outside of India as well as foreign portfolio investors. JP Morgan is one reason for increased activity, but an equally strong factor is that interest in taking rates exposure to India has increased because of strong macro fundamentals and a deeper market,” another person said.
