End of Speculative Trading: RBI Tightens Rules for Foreign Exchange Derivatives Market

April 01, 2024

In response to RBI's notification on Risk Management and Inter-Bank Dealings regarding hedging of foreign exchange risk, the National Stock Exchange (NSE) has introduced Circular Ref. No: 09/2024, dated April 01, 2024, from the Department of Currency Derivatives. These revised guidelines are poised to reshape India's FX derivatives market, impacting trading dynamics and participant behavior.

Key Highlights:

Market Impact: The implementation of the new rule, effective from April 5, is expected to significantly alter the landscape of India's exchange-traded currency derivatives market. Daily volumes, which previously reached $5 billion, are likely to experience a sharp decline.

Participant Response: Brokerages have begun advising clients to close out their contracts as the ruling excludes individual traders and speculators who contribute a substantial portion of the market volume. It's estimated that around 70% or more of the market volume could dry up, particularly affecting arbitragers.

Regulatory Alignment: The new rule aligns with the Reserve Bank of India's broader foreign exchange management policy, aimed at stabilizing the rupee ahead of its inclusion in global bond market indexes from June.

Concerns Arise Over Underlying Exposure Compliance: The heart of the matter lies in whether rupee-based currency contracts traded on NSE and BSE Ltd. require an underlying exposure. The reaffirmation of this requirement by exchanges, based on RBI's circular, has caught some market participants off guard, especially those with unhedged positions.