In a significant regulatory shift, the Reserve Bank of India (RBI) announced on 22 September 2025 that Standalone Primary Dealers (SPDs), once authorised as Authorised Dealer Category-III (AD Cat-III), will now be permitted to participate in non-deliverable derivative contracts (NDDCs) involving the Indian rupee.

Previously, only AD Cat-I banks operating IFSC Banking Units and overseas banks were eligible to transact in such rupee derivatives. This extension aims to deepen India’s rupee derivatives market, broaden hedging access, and bring more participants under regulated oversight.

In this article, we explore the background and rationale, the key changes introduced by RBI, comparative features of NDDCs, potential benefits and risks, and broader implications for India’s foreign exchange and derivatives markets.

Background & Rationale

What are Non-Deliverable Derivative Contracts (NDDCs)?

Non-deliverable derivative contracts (NDDCs), including non-deliverable forwards (NDFs), are financial agreements where currency exposure is hedged but settlement is done in a freely convertible currency (usually USD) rather than delivering the non-convertible or restricted currency (here, INR). These instruments are commonly used in markets where capital controls or regulatory limitations restrict the direct convertibility or deliverability of the local currency.

Because the underlying local currency (INR) may not be deliverable offshore, parties settle net gains or losses in USD (or another convertible currency). These contracts are widely used to hedge exchange rate risk in emerging markets.

Limitations of the earlier regime

Under the pre-2025 regime, only AD Cat-I banks with IFSC Banking Units (IBUs) and overseas banks could transact in rupee NDDCs, both with users (residents, non-residents) and among themselves.

This restrictive framework meant that SPDs, entities that specialize in bond market operations and serve as liquidity providers in government securities, could not leverage derivatives to hedge or intermediate in rupee risk markets. Their forex desks’ ability to offer hedging solutions remained constrained, reducing their competitive edge relative to full banks.

The economic context also underscores the move: external volatility, global interest rate uncertainties, and increasing cross-border flows have elevated demand for robust currency risk management tools. India seeks to integrate its currency markets more deeply with global financial systems while preserving oversight and stability.

Given this backdrop, the RBI’s decision to liberalize access for SPDs is intended to broaden participation, deepen liquidity, and enhance efficiency in the rupee derivatives landscape.

Key Changes Introduced by the New RBI Circular

The RBI’s change is encapsulated in Circular No. RBI/2025-26/78 A.P. (DIR Series) Circular No. 10, dated 22 September 2025.

Below is a summary, via table, of the principal changes and how roles now compare:

Introductory lines: The following table summarizes the prior eligibility regime, the new access granted to SPDs (when they become AD Cat-III), and the impact on various kinds of market participants.

Feature / Entity	Before 22 Sep 2025	After 22 Sep 2025 (Post Circular)	Impact / Remarks
Eligible counterparties for rupee NDDCs	AD Cat-I banks with IFSC units and overseas banks only	Adds SPDs (once authorised as AD Cat-III) as eligible counterparties	Expands the peer group and market makers in rupee derivative space
Entities to whom SPDs can offer NDDCs	SPDs were excluded	SPDs may transact with residents and non-residents	Enhances reach and hedging access for diverse clients
Direction of participation	Only select AD Cat-I + overseas banks	SPDs join on equal footing in defined counterparty set	Drives more competition and liquidity in derivative dealings
Regulatory classification required for SPDs	SPD status but no derivative authorisation	SPD must become AD Cat-III to engage in NDDCs	Aligns with RBI’s AD category structure
Underlying regulation amended	Master Direction, Risk Management & Inter-Bank Dealings did not include SPDs	SPD inclusion inserted in relevant clauses alongside AD Cat-I IFSC banks	Formalizes the expanded scope in RBI’s regulatory framework

With these changes, the regulatory barrier that prevented SPDs’ participation in rupee NDDCs is removed. SPDs now have a pathway to be active participants in
the offshore derivatives market, drawing them into a more integrated ecosystem of currency risk management.

In addition to these structural shifts, the circular also revises definitions in the Master Direction to insert “SPDs (as AD Cat-III)” wherever references to “AD Cat-I banks operating IBUs” previously appeared.

Implications: Benefits and Risks

Benefits and positive outcomes

Greater liquidity and enhanced price discovery
With more participants (SPDs) able to transact in NDDCs, market depth is expected to improve. This fosters better price discovery, tighter bid-ask spreads, and reduced transaction costs for users seeking rupee hedges across jurisdictions.
Broader hedging access for corporates and institutional clients
SPDs often have strong relationships in the debt and bond markets. Their ability to now offer derivatives hedging solutions will allow a wider set of clients—especially those currently underserved in forex markets, to manage rupee volatility more effectively.
Stronger market-making role for SPDs
SPDs can now act as intermediaries or liquidity providers in rupee derivative trades, complementing their role in government securities. This may enhance intermediation in the rupee derivatives segment.
Regulatory oversight and onshore arbitration
Bringing more derivative activity under regulated Indian entities (versus opaque offshore counterparts) may allow better oversight, reduction of counterparty risk, and alignment with domestic stability goals.
Alignment with global practices
Many emerging markets permit non-bank entities or dealers to participate in local-currency derivatives, especially in NDF/NDD markets. This move helps India catch up with evolving global standards of market liberalization.

Risks, challenges, and mitigants

Credit and counterparty risk
SPDs engaging in derivatives may incur credit exposure, especially if counterparties default. Adequate margining, collateralization, and risk management protocols must be in place to manage this risk.
Operational complexity and infrastructure readiness
SPDs will need systems, treasury operations, back-office support, monitoring, compliance, and risk models to engage safely in NDDCs. Some may lack expertise initially.
Regulatory arbitrage and misuse risk
There is a potential for misaligned use or arbitrage behaviors, especially if differences between onshore and offshore pricing arise. Monitoring and enforcement by RBI/SEBI will be essential.
Impact on offshore NDF market dynamics
As onshore-regulated participants expand activity, the existing offshore NDF market may see shifts in volume, pricing, and participant behavior. There could be fragmentation or migration between markets.
Liquidity concentration and participant fragmentation
If only a few SPDs aggressively enter this market, concentration risk may emerge. Ensuring a sufficiently broad base of SPDs participating is key.

Broader Market and Policy Impacts

Effect on rupee-USD derivatives and FX markets

By allowing SPDs to intermediated in rupee derivatives, the onshore-offshore duality in rupee forex markets may gradually shrink. Over time, more of the hedging demand (especially from Indian corporates, import-export firms, and institutional clients) could shift to entities regulated within India. This may reduce dependency on purely offshore NDF markets and strengthen the linkage between domestic interest rates, liquidity, and rupee dynamics.

Implications for government securities and bond markets

Because SPDs’ traditional domain has been government securities markets (such as G-Sec trading), their expanded role in derivatives enhances their financial toolset. They may better hedge interest rate or currency risk associated with bond inventory. This could strengthen their function as market makers, reduce arbitrage frictions, and add depth to yield curve trades.

Regulatory and supervisory challenges

The RBI and related agencies (e.g., SEBI, clearing corporations) must adjust frameworks to account for derivative exposures by SPDs. Supervision, reporting, stress testing, margin rules, and compliance oversight will need updates. Ensuring that SPDs adopt robust internal risk frameworks is crucial for systemic safety.

Further, coordination is needed between currency market regulation and debt market regulation to ensure consistency and avoid regulatory gaps.

Comparison with other markets

In many emerging markets with partially restricted currencies, non-deliverable forward markets are led by banks and authorized dealers. Some allow non-bank dealers or broker-dealers to participate under regulation. India’s step aligns with gradual liberalization seen in mature markets, balancing control with deeper access.

Conclusion

The RBI’s decision to permit Standalone Primary Dealers (SPDs), authorised as AD Cat-III, to take part in rupee non-deliverable derivative contracts marks a milestone in India’s effort to deepen its currency risk management ecosystem. This reform dismantles prior restrictions, broadens market participation, and strengthens the capacity of SPDs to play a more active role in derivative intermediation.

While the benefits, enhanced liquidity, broader hedging access, and more efficient price discovery, are promising, the implementation phase demands vigilance. Credit risk controls, operational readiness, regulatory oversight, and a sufficiently broad base of participating SPDs will be crucial to realizing the reform’s potential.

Over time, if managed prudently, this move may help integrate India’s rupee market more strongly with global capital flows while anchoring derivative activity within a regulated, transparent environment.

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