With the rupee under pressure from capital outflows and higher crude prices, India’s central bank is expanding its scrutiny beyond banks to corporate treasury positions in the foreign exchange market to assess large arbitrage trades, two bankers familiar with the matter said.
According to these bankers, the Reserve Bank of India’s (RBI’s) data call is aimed at assessing the extent of arbitrage exposure with corporate clients, rather than signalling immediate regulatory action.
The exercise follows the central bank’s move on 27 March to cap banks’ net open positions in the domestic market at $100 million at the end of each day, which forced several lenders to unwind trades.
“Corporates might have to unwind as well if things come to a head,” one of the two bankers cited earlier said, requesting anonymity. Corporate treasuries manage firms’ foreign exchange exposures through hedging to ensure that earnings and cash flows are not hit by currency swings.
An email sent to the RBI on the matter remained unanswered till press time.
A Jefferies report on 29 March said that the forex derivative market is dominated by larger banks with gross onshore positions of $30-40 billion that largely offset each other. Banks often buy dollar forwards cheaply in India and sell them at a premium abroad, keeping risks balanced on paper while profiting from the difference.
The data-gathering exercise comes after a volatile trading session on Monday, where the rupee weakened despite the new rules aimed at curbing arbitrage and volatility in the currency market.
Led by the central bank’s move, the rupee initially strengthened 1.3% to a one-week high of 93.59 per dollar, before reversing course to hit a record low of 95.1250 on Monday. Likely central bank intervention helped it recover to close at 94.83, little changed from Friday.
Tanay Dalal, senior vice president II – business & economic research at Axis Bank, said the RBI probably wants to ascertain who is really holding arbitrage positions, “and keep banks on guard with respect to further positioning”.
“The RBI may also want to know whether banks have passed on the arbitrage positions to corporates, as some anecdotes suggest, or whether this is merely hearsay. If banks are still holding these positions, the eventual unwind will likely take a few more days,” he added.
While the unwinding of positions is expected to weigh on treasury income, bankers said the impact may not be as severe as initially feared. “Some of the data on open positions of banks is inflated, and the real numbers are far lower than that,” said the first banker quoted above.
He added that while the unwinding will lead to banks getting hit, it won’t be as disastrous as it is being made out to be. “I feel that the regulator had earlier allowed such open positions to be built, but that will no longer happen,” the banker added.
Market participants believe that instead of banks and corporates, the central bank should push exporters to convert dollar holdings faster, pointing to delayed dollar conversions as a factor weighing on the rupee.
“They should do it to exporters, who have been sitting on dollars… and force them to bring it to India,” a forex dealer said, referring to the extended timelines for repatriation of export proceeds that could lead to lower supply of dollars in the domestic market. However, others said that such steps may have limited impact or could be used more selectively, depending on broader liquidity conditions.
Most market participants expect the tighter rules for banks and closer monitoring of positions to offer only near-term stability.
“These are short-term measures and will not change the fundamental trajectory unless the capital flow imbalance shifts,” Axis Bank’s Dalal said, pointing to continued outflows and global factors shaping the rupee’s direction.
So far in the current financial year, the Indian currency has depreciated more than 11% due to sustained selling by foreign portfolio investors (FPIs) amid global headwinds, including US tariffs. Since the West Asia war began on 28 February, the currency has fallen 4.5%.
In that period, Brent crude prices have risen over 60%, raising concerns of oil and gas supplies globally. Currently, Brent crude is trading at $107.
“Part of the issue is also that the RBI’s forward book is large. If a seller of forwards were to emerge, it could allow for some opportunistic adjustment of these forwards, potentially providing a more balanced way of achieving the desired objectives,” Dalal said.