Interest rate futures (IRFs) — as a risk management tool — are picking up steam in the Indian equity bourses, especially at the National Stock Exchange (NSE).

NSE — which has a 89 per cent market share in exchange-traded IRFs — has seen the monthly turnover in this derivative instrument propel from a level of ₹9,146 crore in February 2014 to ₹53,825 crore in March 2015.

Part of the reason for the spurt in trading activity in IRFs is the effort of the regulators — RBI and SEBI — in ensuring the success of this derivative instrument, say capital market observers.

NSE — which launched NSE Bond Futures II in the third week of January 2014 — also put its weight behind this instrument to improve awareness among market participants.

In India, exchange traded IRFs are standardised contracts based on underlying 10-year Government of India bonds maturing in 2023.

An interest rate futures contract is an agreement to buy or sell a debt instrument at a specified future date at a price that is fixed today.

IRFs were launched in the past as well, but had failed as they required physical delivery. However, in the new avatar — IRFs launched in the third week of January last year — this instrument is cash settled and this probably played a crucial role in increasing the traction for exchange-traded IRFs.

Another reason why exchange-traded IRFs have turned popular in Indian bourses in recent months is the possibility of increased rate volatility in the coming days.

This is especially so given the likely policy rate cuts by the RBI (as it continues the monetary easing cycle) and the impending interest rate hike by the US Federal Reserve.

Bond prices are inversely correlated to interest rates. IRFs are highly correlated with bond prices. This provides for hedging opportunities, say market watchers.

Srivats.kr@thehindu.co.in

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