Foreign portfolio investors have sharply pared back wagers on aggressive interest rate increases in India, sending five-year overnight index swap trading to an unprecedented peak and signalling a pick-up in market confidence.
Turnover in the five-year OIS rose to a record 253 billion rupees ($2.65 billion) on Wednesday, eclipsing the 236 billion rupee notional contracts recorded on Tuesday. That level of activity is almost three times the average daily volume seen so far this year.
Market participants said some foreign investors had built large positions expecting a sequence of rapid, front-loaded rate hikes in response to inflation and weakness in the rupee. Mandar Pitale, head of treasury at SBM Bank (India), said those positions are now being unwound in an aggressive manner.
Reflecting the shift in expectations, India’s five-year OIS rate fell to a four-month low of 6.1% on Tuesday - only 10 basis points higher than its level before the start of the Iran war. The key rate had risen to about 6.9% in April when investors were pricing in as much as 125 basis points of rate increases; those expectations have since been scaled back considerably.
Traders and strategists linked the pullback in tightening bets to a package of measures the Reserve Bank of India unveiled last month to bolster inflows and support the rupee. The currency, which hit a record low of 96.96 per dollar on May 20, has recovered 1.5% since that low, though it has come under renewed pressure after U.S. President Donald Trump said the ceasefire with Iran was "over".
Duncan Tan, APAC rates strategist at HSBC, said expectations of meaningful foreign-exchange inflows have brightened sentiment around the rupee. That improvement in sentiment reduces the immediate risk that currency volatility will push offshore OIS rates higher.
The market moves highlight how rapidly position-taking and central bank measures can interact to reshape rate expectations. With $1 equaling 95.5750 Indian rupees at the reference point in the reporting, the episode underscores the sensitivity of offshore rate markets to shifts in currency flows and investor positioning.
Context and implications
The spike in notional trading in the five-year OIS is a near-term market reaction to the unwinding of leveraged bets on quick, large rate increases. While the immediate effect has been a drop in the five-year OIS rate and firmer rupee sentiment, the market remains responsive to further developments in currency flows and geopolitical cues.