Foreign banks and some of the new private sector banks have been arbitraging between the call money market and the foreign exchange market. They borrow in the call money market and deploy it in the forex market.
Treasury managers point out that the possibility for arbitrage has increased over the last one week.
The call money rates in the last couple of days have been ruling at less than one per cent. Most of the deals in the call money market were yesterday struck in the band of 0.1 per cent to 0.25 per cent.
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The bank then enters into a cash spot transaction wherein the money borrowed is swapped for spot dollars. For this transaction, the bank pays 0.0075 paise or one per cent.
These dollars are then held overseas in the banks nostro account, earning the over-night deposit rate (ODR) of approximately 5.25 per cent.
The ODR is the rate the bank earns if it lends the dollars overnight or holds it in its nostro account. This gives the bank a clear spread of at least four per cent.
The market has been further encouraged by the good demand from importers buying cash-spot.
The arbitraging activities were at its peak during the end of the last financial year when there was a lot of demand for dollars on a cash-spot basis from corporates who had to meet year-end payments.
While the foreign banks have been arbitraging between the call money and forex markets, the public sector banks have been buying securities.
This has led to a bull run in the securities market.
Consequently, there has been an across the board increase in the prices varying between 10 paise and one rupee.
While the public sector banks are buying long term paper, the new private banks and some of the foreign banks are reportedly restricting themselves to the medium term securities.