Mumbai: India is eyeing a home-grown rupee futures contract to rival a market that opened in Dubai this month, but policy makers are expected to move slowly because of major hurdles to trading.
The central bank has come under pressure to allow rupee futures trading since Dubai listed a non-deliverable contract that settles in US dollars. In addition, the fast-expanding foreign exchange rupee market suggests underlying demand.
But there are big obstacles, including a currency that is not fully convertible, and the central bank’s dislike of speculators, seen by many as key to ensuring a vibrant market.
“If you want a very liquid derivative market and you think there should be no speculation, it is not possible,” said P.H. Ravikumar, managing director at National Commodity & Derivatives Exchange Ltd (NCDEX). “If you want to cook rice, you need water.”
India’s foreign exchange market has expanded rapidly in recent years alongside the country’s soaring economic growth. Annual gross turnover of foreign exchange was around $6.5 trillion (Rs267 trilllion) in the year to the end of this March, up from $1.4 trillion six years earlier.
The rupee has gained 15% against the dollar from a three-year low last July, and is now trading at its highest levels in nine years.
The country’s two largest software exporters—Tata Consultancy Services Ltd and Infosys Technologies Ltd—said in May they are increasing their hedging to cushion earnings from foreign exchange risks.
“Any economy needs an effective hedging instrument and clearly currency futures represent such an instrument,” National Stock Exchange of India Ltd president Ravi Narain, said. “If you ask whether currency futures are desirable, it is a resounding ‘yes’,” he said.
Indian companies can currently hedge using over-the-counter currency options, swaps and forwards, but turnover is small partly because of the capital account restrictions for the rupee.
The Dubai market was set up to tap the growing trade between India and the United Arab Emirates, India’s third-largest trading partner.
Traders in Dubai say the market (Dubai Gold & Commodities Exchange or DGCX) is dominated by rich individuals, rather than banks or companies. Although they described trading volume as healthy, the market, with seven contracts reaching out to June 2008, had open interest of just 74 contracts on Friday.
Still, Indian policy makers are being prodded to follow suit as part of a broader opening up of the economy.
“The more such kinds of products exist outside India, the more anomalous it seems that India does not have any such kind of product,” said Shahab Jalinoos, currency strategist at ABN Amro in Singapore.
The rupee has been convertible on the current account, which covers trade expenses, since 1994. But it cannot be exchanged freely for foreign currency for acquiring assets overseas such as shares or property although the central bank is working on this.
A so-called convertibility panel had produced a plan last September for increased convertibility of the rupee by 2011. That includes a rupee futures market, although the central bank only set up a working group to look at the idea this April.
“As far as currency liberalization is concerned the central bank has been fairly conservative and it will take a cautious approach rather than rushing into it,” said Madan Sabnavis, chief economist at NCDEX.
The central bank currently bans speculation, or positions taken without an underlying exposure to the currency, in forwards markets.
A similar rule could strangle a futures contract, so the central bank may have to be more lenient towards speculators, analysts said.
India’s commodity and stock exchanges are lining up to offer rupee futures, but are regulated by different authorities, making it unclear who could legally operate them.
“World over, currency futures are traded on commodities exchanges,” said Jignesh Shah, the managing director of Multi Commodity Exchange of India Ltd (MCX). “In India it should ideally be on the commodities exchanges, but it should rather be under the (regulation of) RBI.”
Summer Said in Dubai contributed to this story.