Mumbai, Aug 20: The currency forwards market is finally set to witness the entry of foreign institutional investors (FIIs) in a big way. The FII participation in the forwards market has been negligible so far as they were allowed to take cover only for their incremental investments as well as capital appreciation from June 11.The Reserve Bank on Thursday announced that FIIs will be allowed to take forward cover up to 15 per cent of the value of their investments as on June 11. The new measure will be in addition to the forward cover facility available for incremental investments.
The RBI has also stated that the forward cover facility will be increased to cover additional investments in future. "Over a period of time, it is proposed to gradually extend the facility of forward cover to the existing investments of FIIs in the equity markets. Initially, ADs (authorised dealers) will be allowed to offer forward cover facility to FIIs to the extent of 15 per cent of the value of their investments as on June 11, 1998," an RBI announcement said.
Participants expect an increase in FII activity in the forward market. The FIIs are yet to take forward contracts for any substantial amounts as the stock markets have registered very little appreciation since June 11.
Fresh purchases by FIIs have not amounted to much as they have been net sellers for most of the days on the bourses since June 11. The rupee, too, was stable from June 11 till the second week of August before it came under selling pressure following the weakness in the Japanese Yen.
Following Thursday's announcement, many of the old FII funds are likely to take forward cover on some portion of their earlier investments. A handful of them had been taking forward cover in the non-deliverable rupee forward (NDF) market abroad on their Indian equity exposure as they were not allowed to do so in India. The forward premium in the NDF market is expected to come down following the RBI announcement. The NDF market premium is often substantially higher than that available in the Indian forward market.
FIIs are not expected to take forward cover with immediate effect as the forward rates shot up on Thursday after the RBI announcement. This is expected to be a temporary phenomenon which may last for a week.
Marketmen say the high forward rate of around 11 per cent on Thursday is primarily due to the sudden reversal of trading position that banks arbitraging between the domestic call and forex market had to take after the RBI announcement. FIIs may wait for the six-month forward rates to come down to around 7-8 per cent before they take cover.
Step by Step
April, 1998 -- forward cover for FII debt investments
June 11, 1998 -- forward cover for incremental FII equity investments
June 19, 1998 -- forward cover for appreciation on the value of investments
August 20,1998 -- forward cover for 15 per cent of equity investments
INSIGHT
Scope will have to be extended
Providing forward cover for FII equity investments is meant to be a confidence boosting measure, but here too the RBI has proposed to do it piecemeal rather than in a meaningful manner. The real problem with foreign investors is the perceived value of the rupee and not the availability of forward cover, though it helps to have some cover. The high forward cover rates make it expensive for FIIs to take cover under the present conditions. But sooner or later the RBI will have to extend forward cover for FII equity investments without any reservations.
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