Volatility in $ premiums baffles dealers

After dropping 20 paise a day last week, 1-year forward $ premium is seen on the way up

MUMBAI: The volatility in forward dollar premiums is baffling dealers. Not just has the extent of movements shot up, the direction is also not clear.

After one-year premium crashed last week to as low as 0.90% (on August 28), it seems to be on the way up now. It closed at 1.22% on Tuesday.

"The market has seen premiums dropping by as much as 20 paise a day in the last week. Since then we have seen some dollar buying, which has pushed up premiums again", said Rohan Lasrado, head interbank foreign exchange, HDFC Bank.

Some dealers expect the increased volatility to continue for some time. "This (volatility) is becoming common. It is because market participants have increased and corporates are becoming pro-active in risk management," said U V Venkatraman, treasurer, IDBI Bank.

"Premiums fell last week owing to fears of a dollar shortage (and a resultant rise in the value of the greenback against the rupee) because of dollar buying by importers and concerns that foreign funds are pulling out large amounts from the local stock market," said L Subramanian, chief general manager and senior forex trader at ICICI Bank.

But the panic lasted just a couple of days as dealers bought forward dollars at lower levels, pushing up premiums, he added.

But market players are uncertain as to what will happen now. "I think the liquidity situation will play an important role this month," said Lasrado.

Dealers are expecting some tightness in liquidity because of the Rs 30,000-35,000 crore advance tax outflows due on September 15. The money market is flush with Rs 37,000 crore extra liquidity right now and the tax outflows is likely to push up call rates to 7.75%.

Banks are likely to buy forward dollars to raise rupees once liquidity tightens as the cost of carrying dollar positions rises.

However dealers underplay the impact of the liquidity tightening. "It may not be significant because corporate interest (to buy forward dollars) is not that great. Also, the view is not clear as traders don't know whether to focus on overseas factors like the Fed's interest rate moves or domestic factors like rupee liquidity," said a dealer with a French bank.

"If the Fed decides to cut rates, premiums will drop by 10-12 paise. Also the government's tax collections are likely to be buoyant as the Q2 results have been good," IDBI Bank's Venkatraman said.

The rupee's moves will also play a part as forward premiums and the Indian currency have been moving in opposite directions of late.

"The one-year premium may firm up to 1.75% in the next one month, riding on the tight liquidity post the September 15 tax outflow. The finance ministry is also targeting a 3% inflation, which means they will keep liquidity tight. Also there is some uncertainty on the political front," Subramanian from ICICI Bank said.

However, dealers don't expect it to be a one-way traffic on the upside. "Traders could sell forward dollars at higher levels," said Lasrado from HDFC Bank.