The Bangko Sentral ng Pilipinas (BSP) has a new limit to banks’ net open foreign exchange (FX) positions to increase FX liquidity, curtail speculative activity and to make sure that transactions are legitimate and has the appropriate risk governance.
BSP Governor Benjamin E. Diokno said Thursday that the new limit was approved on May 20 and will be implemented this August. Since the last time the oversold/overbought FX limits of banks was adjusted was in 2007, the BSP will have a one-month parallel run of the revised computation with the previous reporting in July.
Recognizing the increased client demand for FX, Diokno said the adjusted oversold/overbought limits will “ensure that FX risk does not threaten a bank's safety and soundness” and to “reinforce the BSP’s expectation for banks to faithfully adhere to ethical standards in carrying out their FX transactions.
Basically, an overbought position is when banks’ FX position leads to an extended upside price movement that is consistent and with no significant retreat. The oversold position is the opposite, or downward price movement.
The new net open FX limit framework was first proposed in December last year. A bank’s net open position is the amount of net assets and/or liabilities denominated in foreign currency that it holds. The BSP increased the limit because demand for FX has grown in volume with the growth in trade transactions and investments following several rounds of FX policy amendments.
"This reform initiative aims to ensure that banks can continually provide ample liquidity in the market and service client demand for FX," said Diokno.
Banks’ net open FX limit will be raised to the lower of 25 percent of qualifying capital or $150 million, from the previous limit of 20 percent of unimpaired capital or $50 million, whichever is lower. The previous proposal was to increase the limit only to $100 million but the higher limit of $150 million is what banks seem to prefer.
Diokno said the use of qualifying capital as base for the computation is in alignment to how they measure a bank's capital requirement for its FX risk. “These amendments to the framework for the management of banks' open FX positions aim to make the calculation and measurement of a bank’s net open FX position more risk-based,” he said.
Diokno said the increase in the net open position limit is also appropriate because banks “can have ample liquidity in the market and the hefty GIR (gross international reserves) can adequately service client demand for FX.”
The BSP increased the oversold and overbought limit to 20 percent of unimpaired capital in 2007, at the height of the global financial crisis. Before 2007, the overbought position has an absolute limit of 2.5 percent while banks’ oversold position has no ceiling.
Since 2007, the FX market has “expanded substantially” with both volume of FX transactions and volume of trade transactions “mirroring” each other’s expansion, said Diokno. Also, the GIR have “more than tripled over the past 13 years (and at) the same time, the total assets of the Philippine banking system has risen threefold,” he added.
The current allowable open FX position is not specified as a net position, and it is the lower of 20 percent of a bank’s unimpaired capital or $50 million. Any excess of the allowable limit is settled on a daily basis. The current rule imposes a penalty of P30,000 per day, per transaction, whenever a bank is in excess of its oversold or overbought FX limit.
The BSP will be closely monitoring banks’ compliance with the overbought and oversold limit and it will “pay particular attention” to authorized agent banks (AABs) that breach the limit five times within a 20-business day period.
Instances of breaches that will be evaluated will be based on frequency and the gravity of the breaches, and the underlying cause or causes of the breaches and the extent to which these are consistent with the AAB’s declared business strategies, said the BSP. To be evaluated are also the strength of the AAB’s risk management system and actions taken by the AAB, if any, to address the breaches and restore compliance with the limit. The peso at the P47-48 level has been consistently on the strong side vis-à-vis the US dollar and remains one of the best performing currency in the region. The BSP expects the peso to be strong for a long time and it is fully supported by a healthy GIR. Diokno has said that he expects the country’s FX reserves is to hit $120 billion by end-2021.