The bond markets, however, had no such luck with the yield on the 10-year benchmark nudging 9% as dealers remained unconvinced the government would be able to rein in the fiscal deficit with the additional expenses on food security.
Wednesdays fall of 3.85% in the rupee came on the back of a fall in equities and currencies across geographies on concerns of military action in Syria and growing anxiety about the possible portfolio outflows from emerging markets (EMs) following the tapering by the US Federal Reserve of its quantitative easing programme. Domestic concerns such as the fiscal costs of the Food Security Bill passed by the Lok Sabha on Monday also weighed on the rupee.
At these levels the currency may have triggered a vicious cycle where its free fall could fuel further dollar outflows. Given the emerging geopolitical concerns as US and the UK get ready to launch a military attack on Syria, a flight of dollars from EMs could only intensify, dealers said.
Foreign institutional investors (FIIs) have been net sellers in equities to the tune of $800 million in August. Portfolio flows have otherwise been a strong source of capital flows for the country. Dealers believe this is worrisome given FIIs have been hit by the depreciation in the rupee, eroding the value of their investments.
The 30-share Sensex has fallen 7% over the last fortnight to 17996.15 points, while the rupee has weakened by a steep 11%, which means FIIs investments would have lost about 18% in value in this period. After falling nearly 3% or 520 points in morning trade, Indian equities staged a strong comeback on Wednesday led by buying from large domestic mutual funds and insurers, most noticeably Life Insurance Corporation of India (LIC). The intra-day rebound in the rupee to near 67.65 also drove up the Sensex. While the exact quantum could not ascertained, market sources said LIC may have bought shares worth R1,000 crore to R1,200 crore.
FII outflows could be on account of a negative view on the equities and currency, investor redemptions or stop-losses being hit, Brijen Puri, head of forex trading at JPMorgan pointed out.
Given the spike in bond yields the benchmark yield was 8.96% on Wednesday flows into the debt market, however, have been uneven. Although they remain by and large sellers, FII money has trickled in on the odd day.
Since May 22, when the world got the first hint of the Federal Reserves intentions to taper its $85-billion-a-month bond purchases, FIIs have pulled out a massive $12.9 billion from the debt and equity markets $10 billion from the bond market and $2.9 billion from the equity market.
The yield on the benchmark bond jumped to 9.04% in intra-day trade before settling at 8.96% on concerns over the countrys fiscal health. Although the finance minister has reiterated his commitment to reining in the fiscal deficit to 4.8% of GDP in FY14, the bond markets are not convinced since food subsidies are budgeted at Rs 90,000 crore for FY14, which could go up due to expenses under the Food Security Bill. The sharp rise in crude oil prices to around $115 mark.
This flight of dollars comes on the back of concerns that the possibility of an early taper in September could leave investors with less dollars to invest in Em assets.
The prospects of military action, on Syria by the US following chemical weapon attacks on civilians by President President Bashar al-Assads forces have spooked investors further. After the latest developments, 70 to the dollar looks more real now for the rupee, said a currency dealer at a foreign bank. Deutsche Bank had forecast the rupees fall to 70/$ by the end of this year. The rupee ended at 68.80/$ on Wednesday.
Dealers said that effective intervention by the Reserve Bank of India (RBI) could lessen the pain.
The central bank has intervened in the forex market in every trading session this week but that has had little impact on the currency. Measures to address the current account deficit, imports, liquidity and speculation too have fallen flat.
Two rupees in a day is definitely not orderly movement. The sharp fall has been mainly due to panic selling and the RBI needs to intervene to smoothen the market moves, said Puri.
Intervention was seen only in the morning but during the day, the RBI has been largely absent, said a dealer with a private bank.
With the RBI largely on the sidelines and QE tapering as well as Syrian concerns looming, FIIs may want to pull out the net $7 billion they have invested since January this year across equity and debt.