Protection from exchange rate risk

Rajesh Abraham
Radhika Menon

Net buyers

FIIs have

turned net buyers in the debt market in the last two months for about Rs 442 crore, reversing the 12-month trend.

Foreign funds

seem to have adopted a similar strategy of parking funds in the debt segment in other markets also.

Percentage of

investment in debt, however, is still small.

Mumbai, June 3

Even as foreign funds continue to sell on the stock market they have been parking funds in the debt market, albeit in a small manner, to protect themselves from exchange rate risk.

In a reversal of trend from the last 12 months, FIIs have turned net buyers in the debt market in the last two months for about Rs 442 crore or $99 million (Rs 248.50 crore in April and Rs 193.40 crore in May). The last time FIIs were net buyers of debt in a month was in March 2005.

When FIIs pumped in a massive $10.7 billion or Rs 47,181 crore into the equity market in 2005 calendar, they were net sellers for Rs 5,517.60 crore or $1.24 billion during the same period. Even in the first three months of this calendar year, FIIs were net sellers in the debt market for a total of Rs 1,331.50 crore or $294 million.

Compared with the massive selling by foreign funds in the last 15 sessions, when they dumped $2.5 billion of stock, the buying in debt appears quite small.

Analysts see the trend as a FII strategy to safeguard against exchange-rate risk by parking funds in debt instruments.

Foreign funds, which pulled out over $5 billion from emerging markets in the last 15-17 days, seem to have adopted a similar strategy of parking funds in the debt segment in other markets as well, they said.

"International equity funds faced their biggest weekly outflows in 3½ years. Not surprisingly, money was parked in money-market funds over the past two weeks," Citigroup said in a note to investors.

Mr Moses Harding, Executive Vice-President, IndusInd Bank, said that FII investment in the debt market could be a cash management exercise to avoid exchange rate risk and to retain the funds in the country. "Instead of repatriating the money or keeping the funds idle at zero per cent interest rate, investing in short-term papers in the debt market with some interest rate appears to make better fund management sense. However, as a percentage, the investment in debt is still very small," he said. Despite net investment in debt in the last two months, FIIs were net sellers in the debt segment during this calendar for Rs 356.70 crore or $76.70 million.

But overall figures of FIIs in the Indian debt market from the time they were permitted to invest, show that they are net buyers for Rs 2,015.60 crore or $368.50 million.

A senior official at a private bank said that FIIs might have been temporarily parking their funds in the debt market in the absence of opportunities in the equity market.

"In the light of the appreciation of the dollar in the past month, FIIs have been investing their proceeds from the sell-off in the equity markets in short-term debt schemes like treasury bills, certificate of deposits and commercial paper.

"The dollar has appreciated by more than a rupee in the past month," a bond dealer at a private bank said.

According to analysts, mutual funds have also increased their investment in the debt market. "Mutual funds have enhanced their investment in the debt market particularly because the yields are currently at attractive levels for them - the ten-year yield having hardened from 7.5 per cent to 7.6 per cent. Mutual funds are also exiting from their short-term positions on treasury bills and investing in long-term 15-year papers," an analyst observed.

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(This article was published in the Business Line print edition dated June 4, 2006)
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