Importers should continue to thank their stars that the trauma anticipated when the rupee last collapsed has not come to pass. Again, with premiums quite attractive, a reasonable hedge out to three months would be sensible
On August 24, the rupee broke out the ascending triangle pattern it has been inhabiting since its all-time low of Rs 76.77 hit on April 21. Since then, strong FPI flows (of $9.9 billion), huge FDI (reportedly north of $20 billion), and, of course, a decline in the trade deficit have combined to force the rupee higher. RBI has been actively intervening preventing rupee strength beyond Rs 74.70 (the horizontal line defining the flag), till this week, when it seemed to give up the battle.
What is, perhaps, significant is that RBI is trying not to communicate too much concern about inflation. The MPC minutes from the August meeting noted that headline CPI, which at 6.1% (provisional) was marginally above the top end of RBI’s target; it also tried to play down the households’ 3-month forward inflation expectations, by pointing out that they were lower than the 12-month forward expectations. Indeed, anecdotal evidence shows prices, particularly for essentials (including food) rising quite sharply and, on the ground, people are beginning to get a little alarmed.
The market, of course, knows all this, as a result of which yields climbed as much as 30 basis points at their peak. Further, the fact that the August 14 auction of the benchmark 10-year debt had to be rescued by underwriters, and that the cutoff yield for the longer term bonds auctioned on August 21 were higher than expected, also point in the direction of firming interest rates.
The sharp and sudden jump in the rupee may reflect that same reality. While RBI has come back in to try and prevent further substantive gains, it remains to be seen whether they will—or, indeed, be able to—push the rupee back down into the triangle.
The weekly average of portfolio inflows, while down from recent peaks, are still more than twice the average since April. Further, with global yields extremely attractive, there are many Indian companies, particularly in the financial sector, that are looking to tap these markets—indeed, at a webinar a couple of weeks ago, a senior SBI officer said he expected fresh FDI flows in the range of $20-30 bn over the next few months.
Thus, we could be entering another round of continuing rupee strength—Nomura, for instance, has set a year-end target of Rs 72.80.
During the current phase, the rupee has only recovered 3.5% of its last decline (from Rs 68.33 to Rs 76.77), by far the lowest recovery on record. The average recovery the rupee has shown in episodes of “strength” was 13.4%, which, if expressed today would take it to around Rs 67.50. That is certainly an extraordinarily tall order, despite the ongoing global babble of a substantively weaker dollar. Nonetheless, it is certainly possible that the rupee may stay steady to strong for a while longer. It has already been in that mode for 126 days. The average period of rupee strength was 172 days, and, if the rupee were to replicate that, it could stay above ground till October this year.
Exporters who have been losing premium for four months already need to come up with a sensible strategy to protect their earnings, keeping in mind, of course, that business forecast risk is still the biggest issue in most businesses.
On the other side, importers should continue to thank their lucky stars that the trauma anticipated when the rupee last collapsed has not come to pass. Again, with premiums quite attractive, a reasonable hedge out to three months would be sensible—never look a gift horse in the mouth.
The author is CEO, Mecklai Financial
Views are personal