The RBI today intervened in the forward market. USD/INR forward yields were down 20bps across the curve up to 1y, with 1y yield ending at 2.67%
RBI reducing cost of carry while wanting to defend the Rupee seems counterintuitive. We see three possible reasons:
1) RBI does not want it’s spot Dollar sales to impact system liquidity which is perilously close to getting into deficit. Overnight call rates have been fixing above MSF offlate. Therefore it is pushing it’s spot Dollar sales forward by doing a Buy-Sell swap, thereby avoiding sucking Rupee liquidity from system.
2) RBI has asked banks to stop building positions in offshore market. RBI’s forward intervention could have been a warning to banks looking to arbitrage between offshore and onshore. Banks have been selling in NDF and buying onshore. 1m offshore-onshore points had spiked to 10p recently. If a bank sells 1m NDF it has to buy 1m forward in OTC onshore. At maturity the offshore short position would get squared at RBI fix. The bank would have to cover the onshore long Dollar position by selling at RBI fix as well. If there is a huge supply of Dollars for the day of RBI fix, fix would trade at a discount and this would eat into the arbitrage spread the bank has captured. Buy supplying Dollars where the banks would also have to sell, RBI’s intent could be to deter banks from doing such arbitrage trades.
3) RBI would be concerned about the optics of falling FX Reserves making headlines every week and is therefore looking to sell Forward Dollars instead of spot Dollars.