Monetary policy: SPDs can offer all foreign exchange trade facilities

Decision comes after requests from foreign players; scope of existing licence was restrictive, say primary dealers

The Reserve Bank of India’s (RBI’s) decision on Friday to enable standalone primary dealers (SPDs) to offer the full range of market-making facilities in the foreign exchange market was primarily driven by requests from foreign primary dealerships, sources told Business Standard.

The move will expand commercial business opportunities for foreign primary dealers, which already have a strong network of overseas clients, the sources said.

“It is proposed to enable SPDs to offer all foreign exchange market-making facilities as currently permitted to Category-I authorised dealers, subject to prudential guidelines,” the RBI said in its statement on developmental and regulatory policies on Friday.

“This measure would give forex customers a broader spectrum of market-makers in managing their currency risk, thereby adding breadth to the forex market in India,” it said.

At present, there are seven SPDs in India. Of these, three – Nomura, Goldman Sachs, and Morgan Stanley are foreign players.

The primary dealers system in the government securities market was introduced by the RBI in 1995. Primary dealers are market makers for government securities in India, which means they are mandated with ensuring sufficient trading liquidity in the bond market. These entities also underwrite the government’s bond issuances.

Trade in government bonds represents the core business of primary dealers, while transactions in foreign exchange constitute a much smaller share.

“The previous licence was restrictive in the terms that one could cater to FPIs (foreign portfolio investors) as clients. And that too was only for IGB (Indian government bond) trade. Foreign PDs wanted it to be like a normal licence so that they could make more business,” a source said.

“Whether the licence is small or big, the cost for foreign PDs is the same. It didn’t make commercial sense. As FPI clients became bigger and bigger, foreign PDs wanted to provide a one-stop platform,” the source added.

Primary dealers, however, do not expect the larger scope of trade in foreign exchange to match the scale of trade that exists in government securities. This is due to the fact that only a certain portion of capital can be allocated towards non-core activities such as foreign exchange trade, the source said. “It will not be close to the scale of G-sec business. By the sheer nature of it being non-core,” the source said.

A related step announced by the RBI on Friday to allow SPDs to deal in the offshore overnight indexed swap (OIS) market was greeted with enthusiasm.

“ND-OIS (non-deliverable overnight indexed swap) is something that benefits an entity like us, which is very active in the swap market. The issue was that the size of the global ND-OIS market was seven times that of the local market and a lot of hedge funds express very aggressive views; they are very big drivers,” ICICI Securities Primary Dealership’s MD and CEO Shailendra Jhingan told Business Standard.

ICICI Securities Primary Dealership is the largest standalone primary dealership in India.

The overnight indexed swap market had originated as a means through which banks and other financial entities could hedge their exposure in the sovereign bond market. Over time, however, the market has evolved into a pure play on interest rate expectations while also being a hedging tool.

For the last several years, large swings in the offshore market -- also referred to as the ND-OIS market -- were exerting a huge influence over the domestic market. Often the rate movements were not in sync with the domestic interest rate fundamentals.

“The information access is critical; we were missing out on information. Markets would move and then we would hear from somewhere that so-and-so came and acted. The RBI has done this very well and they are saying all market makers are permitted,” Jhingan said.