MSCI rejig of tech stocks, high FX reserves to favor Rupee; USD-INR may trade in this range in CY21
Updated: Jan 12, 2021 9:58 AM
What lies for Indian Rupee in 2021 is the biggest question for major importers, exporters and traders. The Covid-19 badly impacted major global economies in 2020.
Looking forward to 2021, the first and foremost focus on the domestic front will be distribution of COVID-19 vaccine, and second thing on the Budget for FY22.
By Amit Pabari
What lies for Indian Rupee in 2021 is the biggest question for major importers, exporters and traders. The Covid-19 badly impacted major global economies in 2020 and to revive it major central banks pumped abundant liquidity in the system without any other thoughts. Resultant, major markets flooded with liquidity and made multi or All-Time-Highs. The RBI had cut interest rates by 115 basis points to 4% to support an economy, but they have been on pause for the past three meetings as growth in consumer prices stayed well above its 2%-6% target range for the eight months since April, a streak not seen since August 2014.
On one side, there was a net inflow of $14 billion in CY2020. But on the other side, the Indian Rupee remained the worst-performing currency in Asia pack as it tanked by 2.3% against USD as RBI kept reigns tight. This can be observed clearly by RBI FX reserves as it jumped by $123 billion to touch All-Time-High of $580 billion during CY 2020.
On credit and liquidity side, loans disbursed by Indian banks as a percentage of deposits have constantly declined in 2020, underscoring the effects of excess liquidity and lack of credit demand. The credit-deposit (CD) ratio has consistently declined from 75% levels in Jan-20 to 71.3% on Dec-20. And hence, RBI is expected to resume normal liquidity management operations to stabilize the economy and financial market conditions.
Last week, RBI announced resumption of variable rate reverse repo auctions. The first such auction will be held for a maximum amount of Rs 2 lakh crore on Jan. 15, 2021. Under this, Commercial Banks could park their surplus funds with the RBI and earn the 3.35% reverse repo interest. This could cap further appreciation in the Rupee.
On a growth front, India’s GDP contracted by 7.5 % in Q2 FY 2021 after declining 23.9% in Q1 FY 2021. Further, first advance estimates released by the central government last week suggests that GDP will contract by 7.7% in 2020-2021. The fiscal deficit for the year ending in March is likely to exceed 7% of GDP. If we look at Industrial growth (IIP) so far in the fiscal year 2020-21 (April-October) then it is contracted by 17.5%, compared. Though, India managed to come out of “Twin Deficit” on the back of trade surplus over the last 2 quarters, but restoration of the economy will definitely lead again India into trade deficit. And hence, just a couple of quarters could not justify actual reversal in the trade figures. Overall, the growth picture remains gloomy and against Rupee.
Looking forward to 2021, the first and foremost focus on the domestic front will be distribution of COVID-19 vaccine, and second thing on the Budget for FY 22. This will be the first Budget post-pandemic and expectations for the middle class will be very high as lower groups received free rations and businesses got state-guaranteed loans and other concessions. The FM Nirmala Sitharaman has promised that this budget will be like “Never Before”. But the headwind will be a new Agriculture act as India has seen huge protests by farmers. This indicates that the government is set to take difficult and bold steps. The higher fiscal deficit target on account of higher spending will weaken the domestic currency market too.
Overall, factors which in favour of Rupee could be strong inflows backed by MSCI readjustment of tech stocks, higher FX reserves, middle-class favoured Budget along with economy-push reforms, weaker dollar due to lower US real interest rates, receding pressure on offshore Rupee and lower FX volatility. On flip side, factors against Rupee could be India in watch list of US treasuries for having higher FX reserves, WTI Crude above $60, RBI participation, RBI yearly book closure in March and liquidity management action. Overall, predictable range for the calendar year 2021 would be 72.00 to 75.50.
Technically, the recent double bottom near 72.75-72.85 zone will act as strong support. While, 73.55 will act as an immediate resistance. Overall, either side breakout will decide the short term trend. But bias seems upside more than downside as volatility could spike in the near term after prolonged sideways.
Strategy for near term Exposures:
Thin Margin: Exports having orders with aggressive costing can target to sell their near term exposures in tranches around 73.50-73.90 levels. Overall, we suggest maintaining a stop-loss of 72.80 or costing whichever is higher for the open part.
Thick Margin: Other exporters are suggested to hold with a stop-loss 72.80 and sell above 73.55 levels as opportunity arises
Strategy for Importers: Importers can maintain one month hedge policy buy buying on dips near 73.00-73.10 levels. One can also buy ATM call option for the downside participation if any.
(Amit Pabari is managing director at CR Forex Advisors. The views expressed are the author’s own.)