Saudi riyal plunges against dollar in forward market

One-year dollar/riyal forwards highest since March 2011; Heavy dollar demand pushes spot riyal rate unusually far; Trader cites options activity by U.S. hedge funds

The Saudi riyal fell sharply against the U.S. dollar in the forwards market on Tuesday to its lowest level since March 2011.

Traders said the riyal's peg of 3.75 to the dollar was not under serious pressure, and that the currency's drop did not indicate major concern about Saudi Arabia's economy.

Nevertheless, the move suggested that after a long period of strength, financial markets in the Gulf are becoming more volatile in response to the plunge of oil prices to four-year lows in the last few weeks. Oil provides most state revenues and export earnings for Saudi Arabia and other Gulf states.

One-year dollar/Saudi riyal forwards jumped to 90.0 points, their highest level since a peak of 91.50 points hit in March 2011. The forwards had closed Monday at 69.0 points and ended last Friday at 36.33 points.

They are used by some international investors as a proxy for risk in the Gulf, and to hedge against market movements. The UAE dirham also fell in the forwards market on Tuesday, although to a lesser extent.

Saudi riyal forwards moved in response to a surge of demand for dollars in the spot foreign exchange market, which may be linked to the plunge of oil prices as well as a sharp fall of the Saudi stock market in the past two weeks, traders said.

They said banks were not panicking, but some were buying forwards because the dollar demand had pushed the riyal's spot rate unusually far beyond its peg of 3.75 against the dollar.

The spot rate, which has been creeping up in the last few weeks, was trading at 3.7518 on Tuesday; over the previous several years, it had never risen above 3.7510. The Saudi central bank supplies dollars as necessary to keep the riyal close to its peg.

"The last time SAR spot traded this high for this long was at the unwind of the revaluation speculation trades back in 2008. Before that, it was probably in the early 90s," said Ehsan Ahmed, head of foreign exchange, rates and credit trading for the region at Standard Chartered Bank.

"It seems likely that we have seen a large outflow of capital from the kingdom. This outflow of SAR into USD has exceeded the amount of USD which has been supplied by the Saudi central bank facility, and the interbank market has not been able to absorb this."


One trader at a regional bank in the Gulf, declining to be named under briefing rules, said the markets were reacting to trade in two- and three-year riyal options by US hedge funds.

"It is important to watch out for this evening because we do not know if the order is finished or not," the trader said, referring to New York trading hours on Tuesday.

He said the forward market's move had been magnified by its lack of liquidity. "My personal feeling is, you might see for a couple of days spreads going to the right, but then it will all come back."

With Brent crude oil now at about $85 a barrel, Saudi Arabia's state finances may fall into deficit next year, economists believe. The International Monetary Fund has estimated the government will have a break-even oil price of $90.70 in its budget for 2015.

But given Saudi Arabia's huge fiscal reserves which could be used to keep state spending high for years, low debt that would make borrowing from the markets easy, and strong growth in its private non-oil sector, analysts do not think the oil price drop is a major threat to the Saudi economy.

The Saudi Arabian central bank's net foreign assets rose to a record $737 billion in August, according to the latest data, so it does not risk running out of dollars.

Five-year Saudi Arabian credit default swaps , used to insure against any sovereign debt default, have risen only marginally in the last few weeks and are well below levels hit in 2011 and 2012. The Saudi stock index was up 2.4 per cent on Tuesday afternoon, rebounding for a third day from this month's low.  


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