The Reserve Bank of India (RBI) is altering its approach to managing rupee volatility by increasingly utilizing non-deliverable forwards (NDFs) over traditional spot market interventions. This shift aims to preserve foreign exchange reserves while maintaining currency stability, according to sources familiar with the central bank’s strategy.
Historically, the RBI has been active in the local over-the-counter (OTC) spot market to stabilize the rupee. However, the bank is now focusing more on NDFs, two insiders told Reuters. By intervening in the NDF market, the RBI can influence currency rates without significantly depleting its foreign exchange reserves, as NDF trades only require settlement of the difference between the contracted rate and the prevailing spot prices.
‘Using NDFs is a great signaling tool and helps manage volatility without directly impacting forex reserves,’ one source said.
The RBI’s policy to curb excessive volatility is crucial for attracting foreign inflows. Its NDF intervention is particularly prominent in the one-month tenor, the most liquid segment of the NDF market. For instance, during heightened tensions between Iran and Israel, the RBI’s NDF interventions ensured a stable opening for the rupee in the local OTC market.
Recent data reflects the RBI’s increasing reliance on NDFs. The aggregate outstanding position in the up-to-one-month segment rose to nearly $94 billion in fiscal year 2023/24, up from around $69 billion in 2022/23 and $60 billion in 2021/22.
Despite this shift, the RBI continues to purchase dollars in the spot market to bolster its reserves. In March 2024, the bank made a net addition of $13.25 billion to its reserves, the highest monthly increase since October 2020.
‘Market conditions dictate whether the RBI can manage movements with NDF interventions alone or if it also needs to enter the onshore OTC spot market,’ another source explained.
The RBI did not immediately respond to requests for comment on this strategic shift.
This tactical change underscores the RBI’s ongoing efforts to balance currency stability with reserve accumulation, responding dynamically to market conditions and geopolitical developments.
