Soaring offshore FX swaps signal anxiety over Indian rupee outlook

MUMBAI: The gap between offshore swaps used to wager on India’s policy rates and those that reflect the cost of hedging against a weaker rupee is ​widening, hinting at worries over the currency’s outlook as the Iran war threatens the ‌net energy importer.

The one-year non-deliverable overnight index swap (NDOIS), a key gauge for India’s policy rate expectations, has climbed 50 basis points since the Middle East conflict started.

The one-year dollar/rupee non-deliverable currency swap, which factors in the cost of ​hedging rupee exposure, has jumped more than 90 bps, reflecting pressure from hedging and ​speculative flows.

The spread between the rates has widened to more than 100 basis ⁠points from 60 basis points before the war broke out on February 28.

This widening gap is ​largely driven by concerns over the rupee, considering its recent trajectory, a rates trader at a ​Singapore-based hedge fund said, declining to be identified as they are not authorised to speak to the media.

“A spread around 100 seems very high. However, it is a broken market and (the spread) could go higher.”

Indian rupee gets a breather, contradictory signals on Iran war keep traders cautious

OIL PAIN

A 40% ​jump in crude prices has intensified pressure on the rupee, which had already been under strain ​prior to the Iran war. The currency slid more than 1% over the last two sessions to near the ‌94-per-dollar ⁠mark.

While a pullback in oil offered marginal relief on Tuesday, the rupee has fallen more than 3% since the war began, despite interventions by the central bank across spot, forward and the non-deliverable forward markets.

Investors are betting on a prolonged oil price jolt by pushing rates higher, with NDOIS forecasting ​at least 50 basis ​points of rate hikes ⁠over the next year.

Analysts at Goldman Sachs expect India’s central bank to deliver two rate hikes over the remainder of 2026, noting that while inflation ​is within the 2%-6% tolerance band, the rupee has been under pressure, ​and the pass-through ⁠to retail prices is likely to be significant.

A 5% fall in the rupee adds about 35 basis points to retail inflation, as per central bank estimates.

“India is unlikely to operate sustainably at current policy settings if inflation ⁠moves ​closer to ~5-6%, given a neutral real rate of 1.4–1.9%. This ​suggests that tightening risks rise meaningfully under a sustained energy shock,” said Vivek Rajpal, Asia macro strategist at JB Drax ​Honore.