RBI Restricts Forex Derivatives Trading to Stem Rupee Decline

Mumbai: The Reserve Bank of India (RBI) on Saturday introduced tighter regulations on foreign exchange derivatives, aiming to reduce speculative trading and support the struggling rupee.

The Indian currency has faced sustained pressure due to continuous foreign capital outflows and increasing fuel costs. It ended trading at 96.73 against the U.S. dollar on Friday, approaching its historic low of 96.82 reached earlier this year. In May, the rupee had fallen to an all-time intraday low of 96.96.

In its latest measures, the RBI capped transaction limits for forex derivatives and mandated enhanced documentation procedures for participants. Additionally, it barred the rebooking of cancelled contracts and imposed a 20% cash reserve requirement—termed the Foreign Exchange Risk Reserve (FERR)—on derivative contracts exceeding $2 million.

“These steps are designed to reinforce market discipline and promote responsible risk management within the foreign exchange market, ensuring an orderly and transparent trading environment,” stated the RBI in its official communication.

Authorised dealers are now prohibited from allowing clients to rebook forex derivative contracts—either deliverable or non-deliverable—that were previously cancelled with any bank after the issuance of these new directives.

Rolling over maturing contracts remains permissible under existing frameworks.

The threshold for undertaking forex derivative transactions without requiring proof of underlying exposure has been lowered from $100 million to $5 million, aligning with similar changes in exchange-traded currency derivatives across stock exchanges.

Furthermore, the RBI launched a dedicated facility to fulfill the daily dollar requirements of major public sector oil marketers—including BPCL, HPCL, and Indian Oil—which collectively account for significant portions of India’s crude imports.

Market analysts suggest that while the 20% FERR charge aims to limit speculative dollar demand—especially among large importers—it may also increase hedging costs and potentially suppress forward premiums.

“By introducing FERR on high-value derivative contracts and tightening eligibility norms, the RBI has effectively raised barriers for speculative activity,” noted Ashhish Vaidya, Head of Treasury at DBS Bank. “However, this could make it costlier for legitimate importers to manage their currency risks.”

While some bankers acknowledge the intent behind the move, others caution that such restrictions might dampen overall market participation and interfere with the natural pricing mechanism of the rupee.

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Authorised dealers will not be allowed to let users rebook forex derivative contracts involving the rupee, whether deliverable or non-deliverable, if the contracts were cancelled with any bank after the directions were issued.

Forward Premiums
Rollover of contracts on maturity will continue to be permitted, subject to existing regulations.

The RBI has also cut the threshold for forex derivative transactions that can be undertaken without establishing an underlying exposure from $100 million to $5 million.

A corresponding reduction has been introduced in exchange-traded currency derivatives involving the rupee, across stock exchanges.

Bankers said the move to impose the 20% FERR levy will make it almost impossible for importers to hedge their exposure and could lead to a collapse in forward premiums. Forward premiums surged across tenures following the central bank’s dollar-rupee sell-buy swaps, which were primarily intended to absorb the excess rupee liquidity from the interbank system.

“The 20% levy will make it more expensive to hedge large dollar transactions and could reduce dollar/rupee premiums. This, together with taking OMC dollar demand out of the market and reducing the threshold for forex derivative contracts to $5 million, will impact dollar demand and support the rupee,” Vaidya said. Some bankers said the measures are restrictive and could curb market activity and distort the rupee’s market-determined value.

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