Even as Reserve Bank is working on launching a futures instrument in government bonds, market players are having reservations over the design of the proposed product, citing poor experience in the past with such derivative instruments.
Interest rate futures is a contract between a buyer and a seller wherein they agree to the future delivery of any interest-bearing asset, such as government securities, treasury bills among others. The proposal is part of Governor Raghuram Rajan's plans to deepen the financial markets, which in turn will help banks and other financial sector players assess interest rates in a better manner and have a better understanding of interest rate movement and thus hedge their risks accordingly. "Only if the proposed product is a pure hedging instrument and is in sync with the government bond market, it will generate demand," a senior public sector banker told PTI, on condition of anonymity.
Bankers also point out that valuation methodologies will be something the participants will be looking at. "The domestic debt market is not mature. Though the number of players in government bond market is numerable, only a handful of government securities are traded," said a treasurer of a private sector bank.
If a debt futures instrument is launched, it will increase the liquidity in the G-secs market, which can in turn deepen the debt market, that currently is dominated to the tune of 90 per cent by the government bonds alone. "Lots of customers burnt their fingers in past in the domestic derivative market. We need to see the structure of this product and how far it will be used by the market players," points out a treasurer with a state-owned bank.
Notably, in 2003 and 2009, the RBI had launched such products but they failed to attract customers. Even RBI's attempt to launch credit default swaps (CDS) in October 2011 failed to gain traction.
However, analysts feel if the interest futures is launched, it will help the corporate debt market to deepen, which is also at a nascent stage due to the sheer dominance of the Gilt market. However, the aforecited public sector banker said, "if the proposed instrument comes in the right format, it will be a boon for the debt market."
Market participants say RBI is in discussions with various banks and other stakeholders like stock exchanges to formulate the guidelines for the product. "We are in discussions stage with the RBI. All banks are showing interest in this," said a senior banker with another public sector bank.
Rajan, in his inaugural speech, had said that deepening the financial markets was a priority for him and that he wanted to increase the forex market volume in the onshore market, which is now being controlled by the offshore. The proposed product will also provide policymakers with a better tool to measure market expectations on future rate decisions, while investors can bet on the direction of interest rates.
Absence of an active debt derivatives market has been preventing banks and other financial firms from availing of a hedging opportunity.