Asia's Central Banks Hedge Against Dollar Strength with Derivatives
Central banks across Asia are increasingly utilizing derivatives to mitigate currency volatility against a stronger US dollar. This strategy raises questions about the sustainability of their actions and the potential accumulation of future challenges.
The Reserve Bank of India's net dollar short forward position reached a record high of $68 billion in December, while Bank Indonesia's net short book is at its highest since 2015, standing at $19.6 billion.
Critics suggest that this increased use of forward contracts may simply postpone, rather than resolve, currency depreciation concerns. "It's essentially deferring depreciation to a later date," asserts Dhiraj Nim, a currency strategist at Australia and New Zealand Banking Group.
Beyond spot trades, derivatives allow central banks to intervene without depleting reserves or attracting scrutiny from the United States regarding currency manipulation.
However, forwards also come with risks, as central banks must manage the size of their forward positions carefully.
Despite the potential downsides, Aaron Hurd, a senior portfolio manager at State Street Global Advisors, believes the advantages of forwards outweigh the disadvantages. He cautions against excessive positions but does not see an immediate concern.
Recent market developments, such as a decline in the dollar's value, may provide temporary relief for central banks. However, the use of derivatives is likely to remain a popular strategy given its flexibility and potential cost benefits.