Mumbai: Interest rate futures, the newest derivative product in the Indian market, seems to have failed in generating trading interest.
Even though trading in the derivative is just about 10 days old—too early to spot a trend—trading volume is going down by the day despite there being no transaction fee on it till 31 December.
The daily volume of trade has dropped by 76.33% to Rs63.27 crore on 10 September from Rs267.31 crore on 31 August, the day of launch. The number of contracts traded has fallen steeply from 14,559 on 31 August to 3,439 on 10 September.
Lack of clarity on regulations, inadequate risk management infrastructure within institutions and a near-uniform view on interest rate trajectory by traders are some factors that have contributed to the tepid response to the product.
Interest rate futures are agreements to buy or sell an underlying debt instrument, typically government bonds, at a future date at a predetermined price. Future prices mirror the rise and fall of the underlying debt.
At least three large banks that Mint spoke to said the main reason behind the lack of interest is the absence of divergent views on interest rate trajectory. “Banks normally take the same view on interest rates,” said Kamal Mahajan, chief manager, treasury, Bank of Baroda, which has investments of about Rs45,000 crore in government bonds.
State Bank of India, or SBI, India’s largest lender that has an investments of Rs2 trillion in government bonds, said it has been trading in interest rate futures since the day of launch, but has been facing difficulties in executing orders due to lack of adequate liquidity and limited participation. “Without the participation of retail investors, mutual funds and insurers, it is difficult for this market to succeed. Absence of liquidity is hurting the volumes,” an SBI official said on condition of anonymity.
Arvind Sampath, director and head, bonds trading, Standard Chartered Bank, which has about Rs15,000 crore in government bonds, said: “The liquidity problem can be sorted out only if insurance companies and retail investors enter the market.”
The National Stock Exchange launched the product with contracts maturing in December and March. Investors were allowed to bet on the future movement of interest rates by buying or selling interest rate futures contracts worth Rs2 lakh each, the minimum permissible size of a single contract.
Retail investors were not expected to be excited about the product, given its complexity, but even banks, primary dealers, insurers and mutual funds are not coming forward to trade in it in a big way. About 27% of all banking assets in India are government bonds.
Mutual funds are allowed to trade in derivatives only to hedge their investment portfolio and not for investment.
According to Ashish Nigam, head of fixed income, Religare Asset Management Co. Pvt. Ltd, funds are waiting for some clarity from the regulator.
Ritesh Jain, head of fixed income, Morgan Stanley Asset Management Ltd, said: “Right now it can be used only for schemes which hold instruments with long-term maturity such as gilt plans and income plans. You cannot use this product to hedge shorter duration plans. It’s of no use for us.”
Bankers also seem to be unhappy with the delivery mechanism. “There are distortions in the delivery mechanism that need to be sorted out,” the SBI official said.
This is the first exchange-traded derivatives product to be settled by physical delivery of the underlying instrument that are government bonds. All other exchange traded derivatives are settled in cash.
“The product has been launched in a hurry. They should have ensured that the banks and other participants have the required risk management system to enter such trades. Also, there is not enough clarity on the delivery front,” Mahajan said.