Currency derivative market: Open interest contracts fall around 47% despite RBI’s deadline extension

According to the National Stock Exchange of India (NSE) data, open interest contracts fell to 33,18,699 on April 8, from 62,59,762 on March 27.

Money markets are closed on April 9 on account of Gudi Padwa (New Year in Maharashtra).

Also read: Will RBI's new currency derivatives norms wipe out most exchange traded volumes?

What do regulations say?

In a circular dated January 5, the central bank said that investors must ensure the existence of a valid underlying contracted exposure, which has not been hedged using any other derivative contract, and that they should be in a position to establish the same if required.

The underlying derivatives contract refers to the order bill, or receipt in the case of exporters and importers, or documents to support the transaction in case of remittances.

Also read: Bourses ask brokers to ensure compliance with RBI directive on currency derivatives' trading

Deadline extension

The central bank, on April 4, extended the deadline for implementation of exchange traded derivative contract rules, from April 5 to May 3.

This was done after some stakeholders expressed concerns over participation in the exchange traded currency derivatives (ETCD) market in light of the RBI 's currency derivative norms.

“It is emphasised that the regulatory framework for ETCDs has remained consistent over the years and that there is no change in the RBI’s policy approach,” RBI said in a release.

Despite this, Bhansali said traders are worried as they will not be able to take new positions without giving underlying (an asset or security that gives cash flow), and if they do, they will always be afraid that the  exchange or RBI can call for underlying, without which it will be a violation of FEMA Act, 2000.

Parmar said most of the unhedged positions had been closed. Fresh positions would only be from hedgers and that too would  be limited due to low volatility in the past year.

RBI’s take on currency derivatives

RBI Deputy Governor Michael Debabrata Patra, during the post-monetary policy press conference last week, said that RBI’s policy on foreign exchange risk management has remained consistent over the last few years and that there is no change in the policy approach.

In 2008, exchange-traded currency derivatives were introduced under the aegis of the Foreign Exchange Management Act and the regulations of FEMA clearly stated that ETCDs are for hedging only, and when you state that, it implies that you must have an underlying exposure, Patra said.

Patra further added that in 2014, the RBI provided a relaxation that said participants in the market must have underlying exposure of up to $10 million of that exposure, they need not produce documentary evidence of it. Since then, over the next few years, that limit was raised to $100 million just to provide an incentive for market turnover and to expand the size of the market. But the moot point is that it is only for hedging and underlying exposure is a mandatory requirement.

Some market participants have been misusing this and started understanding that a relaxation in documentary evidence is tantamount to not having an underlying.  And that is a violation of the law, deputy governor said.