With the higher implication of positive correlation of the USDINR pair, we could see a retest of 73.80- 74.00 over the short term and 74.50 over the medium term.
By Amit Pabari
“When you face unexpected events, you have to try to overcome those problems, but at the same time, you should not deviate from your original goal which you had set at the beginning.”
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The ideal response to the thought could have had a run-through every exporters and importers’ mind while Rupee moved from 74.20 to 73 levels. With markets remaining too volatile, it gave a “WIN-WIN situation” for both importers and exporters over the last few months. When the rupee moved to 72.40 levels in May to mid-June importers cheered, while when the rupee went to 74.95 levels in July exporters cheered, and now with 73 levels back, importers seem happy again. The ones who maintained a defined process and structured plan for covering their exposures were not much impacted.
Well apart from the risk management point of view, it becomes crucial to understand “What factors exactly led to rupee appreciation past 74 levels, especially when odds were favouring depreciating move?”… Let’s check one by one and analyse what had happened.
- Consistent FII inflows: The on-going flurry of inflows pertaining to IPO, corporate borrowing, and MSCI month-end rebalancing continuously supported the Rupee against the dollar. That included Adani green’s borrowing worth $750 mln, Axis bank’s worth $600 mln, and SBI $550 mln via overseas AT1 bond sale. Rally in domestic equities, broad dollar weakness, and regulatory curb by the Chinese government led to more FII flows diverting to India. This was clearly visible as FII remained a net investor worth Rs. 16,500 in August.
- Lack of Intervention by the RBI: With such high-end inflows, the rupee received its highest gains in a single day over four months amid the absenteeism of intervention by the BIG bull- RBI in the spot market. Considering the huge rupee liquidity in the system, RBI would have stepped back from the intervention which made the rupee post strong gains of about 1.6% in a timeframe of four days.
- Improved risk appetite: US dollar weakened on signals from Fed Chair Powell that the central bank is not in a hurry to hike rates and also didn’t provide any timeline to taper QE in the most-hyped ‘Jackson-Hole’ event. With this US 10y yield traded slightly lower at 1.27%, while the dollar index saw a sharp fall to 92.20 from a 9-month high of 93.75 post his speech, made the emerging market currencies react positively.
Although the rupee has stabilized after a steep appreciating ride, it remains under pressure from multiple sources. Let’s take a closer look at factors that could contribute to capping rupee gains hereon:
- Spike in Crude oil: Supply disruptions as Hurricane IDA have shut about 80% of the Gulf of Mexico’s oil and gas output and falling U.S. crude inventories have led to a rise in oil prices above the $70 mark. And that remains no good news for a net oil importing nation like India.
- Rising expectation of 3rd wave hitting India: New daily COVID cases in India are hovering near the 40000 per day mark currently, but the way citizens are steeping outside the home for celebration is creating a contrary opinion of the situation. With schools reopening and over-crowding during the festival season could become a concerning point for the business and economic activity in the upcoming time. The bad signals are already coming from Kerala currently, where the deadly Nipah virus has come as another thorn in its side, pressurizing the state to tighten the restrictions further. This will stall the recovery in the coming quarters and impact the local currency.
- Trade deficit: A weaker rupee could be on cards with a widening trade deficit, with seasonal demand for gold due to auspicious days for weddings and festivals to push up non-oil imports. In recent data, India’s trade deficit widened to USD 13.87 billion in August from USD 8.2 billion in the same period last year, marking the largest trade gap since April. Higher demand for global goods and weaker exports due to disruption of supply chain and rising shipping cost could widen the trade deficit figure in upcoming months. This will be an add-on factor to the weakness in the Rupee.
- RBI intervention: With the rupee not being able to cap gains beyond 72.90 levels despite sustainable flow in the first three days of September month and moving back towards 73.15 levels, suggest that RBI could be back in action on the downside. In fact, current levels are not profitable for the RBI who had intervened when the Rupee was around 74-74.40 zone and built their FX reserves.
The below USDINR weekly chart suggests that the pair is following a trendline very closely. Broadly, one can easily see that the USDINR pair is trading in the range of 72.30-75.50 over the last 1 year. And since last few weeks, the pair is respecting rising and falling trend line support and resistance levels gracefully. Currently, the pair has taken support near rising trendline levels of 72.80 and showing a reversal move. If it holds these levels in the near term and crosses 73.20 convincingly, then we can expect a move towards 73.80-74.00 levels. There is very little probability that the pair could break 72.80 and move towards another support of 72.50 or 72.30 levels.
Overall, factors for rupee depreciation are overpowering than its appreciation. Gradually, if inflows get standstill and the central bank continues its intervention in FX markets then it could turn in favor of a weaker rupee. Eventually, a confirmation of a formal taper announcement by the Fed should result in renewed strength in the U.S. dollar and we may see DXY regaining its momentum above 93.50 mark. With the higher implication of positive correlation of the USDINR pair, we could see a retest of 73.80- 74.00 over the short term and 74.50 over the medium term. The strong support for the pair lies at the 72.80 level.
(Amit Pabari is the Managing Director of CR Forex Advisors. Views expressed are the author’s own.)