Stable Rupee puts brakes on arbitrage opportunities

MUMBAI: The arbitrage opportunities between the rupee-dollar offshore non-deliverable forward market – an over-the-counter platform and domestic forwards – have significantly narrowed as the exchange rate has become relatively stable.

Using the rate differential between onshore and offshore markets, some currency traders who are known as speculators in market parlance, are engaged in arbitrage trading, trying to make a quick buck.

“Arbitrage is a pricing discrepancy that exists due to illiquidity in related markets. A relatively stable rupee is currently not suggesting any depreciating or appreciating trend,” said Anindya Banerjee, currency analyst at Kotak Securities. “This has helped narrow down the arbitrages between NDF and domestic forwards.” If the general trend suggests rupee appreciation, speculators would sell dollars in India and buy them in NDF market at a lower rate. For the past two months, the local currency has been hovering about the 2% range between 60.45 and 61.75 per dollar.

“Speculators thrive on trends and hence, whenever sharp moves happen in the currency pairs, there stands a strong possibility that speculators can drive prices away from the fair value,” Banerjee said.

However, such practice leads to high volatility in the NDF market with sharp intra-day movement. The Reserve Bank of India (RBI) traditionally abhors this exercise and intervenes in the market to curb volatility. Select corporates with overseas offices and some multinational lenders normally take advantage of those price skews, dealers said.

The spread or gap in the onemonth contract maturity now stands at about 10-11 paisa compared with 22-23 paisa in May-June when the rupee was hovering around 58 against the dollar this year. This means, if the rupeedollar one month forward is trading at 60.32 in India, it would be 60.20-21 in the NDF market.

“People who short-sold dollars in the NDF market expecting a stronger rupee, are now unwinding their positions as the dollar is strengthening globally on better economic prospects there,” said Abhishek Goenka, founder and CEO of India Forex Advisors. “Back home, forward premium in India too has dropped on rate cut expectations.”

The spread between one-year forward contract in domestic market and NDF now stands at 60 paisa compared with about 100 paisa 3-4 months ago.

Similarly, the 2-month NDF forward contract is trading at about 19-20 paisa discount now compared with 40-45 paisa 3-4 months ago. In the 3-month maturity, the spread has contracted to around 30 from 60-65 paisa earlier.

RBI sold dollars in the foreign exchange market in August to stem the rupee’s sharp fall, after being a net buyer of the US currency for five straight months preventing its sharp rise. The central bank net sold $511 million in August compared with $5,453 million net bought in July and $2,642 million in June and $1,786 million in May. In market parlance, it is called intervention by the central bank.

“The Reserve Bank of India has managed to curb the rupee volatility, which in turn has resulted in diminishing NDF arbitrage opportunities,” said Satyajit Kanjilal, CEO Forexserve. “In May 2014 end, when INR was sub 59.00, volatility was very high. Subsequently after the elections, the sharp swings have gradually receded and the gap has reduced.” The rupee on Monday strengthened 23 paisa, or about 0.37%, to close at 61.11 against the dollar.