Context:

The Reserve Bank of India proposed allowing foreign portfolio investors (FPIs) to undertake exchange-traded rupee interest rate derivatives transactions subject to an overall ceiling of Rs 5,000 crore.

Interest Rate Derivatives

• Interest Rate Derivatives (IRD) are contracts whose value is derived from one or more interest rates, prices of interest-rate instruments, or interest rate indices.
• These may include interest rate futures, options, swaps, swaptions, and FRA’s.
  • Entities with interest rate risk can use these derivatives to hedge or minimize potential losses that may accompany a change in interest rates.
  • Improve transparency
  • Achieve better regulatory oversight.

FPIs will be allowed

• FPIs may transact in permitted exchange-traded IRDs subject to the conditions that, at any point in time “the net long position of FPIs, collectively, and across all exchanges, in exchange-traded IRDs shall not exceed Rs 5,000 crore.
• Also, the net short position of an FPI on exchange-traded IRDs should not exceed its long position in government securities and other rupee debt securities.

User classification:

• For the purpose of offering Rupee IRD contracts to a user, the market-maker (entities that provide bid and offer prices to users in order to provide liquidity to the market) should classify the user either as a retail user or as a non-retail user.
  • Non-retail users are entities regulated by RBI, SEBI, IRDAI, or PFRDA; resident companies with a minimum net worth of Rs 500 crore; and non-residents, other than individuals.
  • Any user who is not eligible to be classified as a non-retail user shall be classified as a retail user.

The Proposal

• Local companies with a minimum net worth of `500 cr can participate.
• Retail participants can only hedge, but non-retail can use it for any purpose.
• Exchanges to decide on design and participants; in OTC, banks and primary dealers can participate.
• TFPIs can take exposure of up to `5,000 crores all put together