Rate futures to fly finally as RBI lets in treasury-bills

Tuesday, Mar 8, 2011, 3:43 IST | Place: Mumbai | Agency: DNA Neelasri Barman Urvi Shah Volumes in interest rate futures trading are set to pick up with the Reserve Bank of India's decision to introduce it on 91-day treasury bills issued by the government. Volumes in interest rate futures (IRF) trading are set to pick up with the Reserve Bank of Indias (RBI) decision to introduce it on 91-day treasury bills issued by the government. A notification on the RBI website released on Monday said that the 91-day bills futures contract shall have features like cash settlement and it shall be based on the weighted average price/yield obtained in the weekly auction of the 91-day bills on the date of expiry of the contract. IRF is a financial derivative (a futures contract) with an interest-bearing instrument (gilt or treasury bills) as the underlying asset. It is primarily seen to be of use to those who have a view on how the interest rate would move and wish to benefit from it. Following the RBIs move, within the next three months the market will witness hundreds of crores of volumes, said Pradeep Madhav, managing director, STCI Primary Dealer. According to J Moses Harding, executive vice-president and head of global markets group, IndusInd Bank, the RBI decided to introduce short tenures like treasury bills to bring liquidity in the market. To develop a market, the market has to cover the product across all the tenors, short, medium and long term, Harding said. IRFs were launched for the second time in August 31, 2009 by the National Stock Exchange. The earlier launch in 2003 had failed to make a mark. However, the second launch also witnessed meagre volumes. In the last one month volumes in IRF trading had been a mere Rs16.65 lakh. The reason being so far only long-term and medium-term gilts were allowed as underlying. Besides that cash settlement was not allowed and only physical settlement was permissible. Under that process the seller used to deliver a cheapest-to-deliver bond to the buyer.

The cheaper-to-deliver bond was the least expensive underlying bond that can be delivered upon expiry to satisfy the requirements of the derivative contract. However, the cheapest-to-deliver bond may not be a liquid paper, due to which the buyer gets saddled with an illiquid paper many a times. Physically settled transaction has no real demand. RBI might have thought that a cash settled market will drive in the liquidity, Harding said. Mohan Shenoi, group head-treasury, Kotak Mahindra Bank, concurs: Now that cash settlement is permitted, banks will find more interest in the product. Market prefers cash settlement rather than have illiquid securities.