Volatility in the air? Market expects some dramatic move in the rupee over the next few months

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October 12, 2020 8:00 AM

The gap between USD-INR 3-month implied volatility (6.58%) and the realised volatility over the past 90 days (4.55%) is huge and has been sustaining for over a month. Market expects some sort of dramatic move in the rupee over the next few months

Having said that, though, there appears to be some reasonably strong support (technically) at 74.50, and then 75.The CPI-IW is primarily used to regulate the dearness allowance of government employees and the workers in the industrial sectors.

One of the benefits of the lockdown for me is that I get to speak with and “meet” dozens of clients who I wouldn’t normally meet for various reasons. Again, meeting in the current circumstances is better than before because everybody is more open than usual and, most often, they are home so the meeting has a personal dimension to it.

And, of course, each call brings new learning—about client businesses—and ideas and questions about the market.
Last week, I spoke with a client who was focused on—and, indeed, concerned about—November 3; his take was that after the US election, irrespective of who won, all hell would break loose with the dollar, which would necessarily impact the rupee. He asked me what I thought.

I began, of course, by replaying the broken record that I really don’t have a view. I do believe (hope?) that Trump will lose, but how that will affect the dollar is anybody’s guess. And, particularly if there is the anticipated trauma of Trump not demitting office if he loses, it is even more difficult—indeed impossible—to forecast the direction, let alone the extent, of any move. Then, I remembered a lovely story.

This was back in 1987—Black Monday, October 17—when Wall Street collapsed by 22.6%, the highest ever one-day decline till then. I was recently (Dec 1985) returned from the US and building our advisory practice; perhaps because of the bright shirts and, possibly, because I was one of few people thinking about global markets at the time, I had become something of a market guru, and, on October 18, the phone was exploding with people—clients, non-clients, friends, senior bankers, you name it—asking me what was going to happen. I struggled to tell them the same thing—I didn’t know; also that when there was an earth-shaking event, it is impossible for anyone to know even how to think about what was going to happen. But the calls kept coming.

Exhausted and exasperated, I went downstairs for a cigarette. As I leaned against the building, smoking, the chanawala at the corner came up to me and said, “Sah’b, pachas rupiya chahiye.” Much more rudely than usual (since I was still trying to process what was going on), I chased him away and kept smoking.

Into my second cigarette, I got a brainwave. I called the chanawala over and asked him, “Dollar upar jaane wala hai ya neeche?” He said, “Sah’b mujhe ya pata?” I told him, “Pachas rupiye chahiye?” He said, “Haan, sah’b.” Me: “To bolo.”

He said something, I don’t remember what, I gave him the fifty rupees, and went upstairs and told every caller (and there were still dozens) what he had said (without, of course, identifying the sage). The point is that while it is impossible to sustainably forecast the market, it is completely nuts to even try when things are falling apart—
the chanawala’s view is as good as anybody’s.

So, I told my client the story and, of course, he enjoyed it. But his question got me thinking. Clearly, there could be a risk of a serious trauma as a result of Trump’s personality. So, I looked at the historic volatilities of EUR-USD and USD-JPY—in absolute terms, they were quite a bit lower than levels that had prevailed in previous crises—no signal there. I also looked at the gap between these and the respective implied vols, and found that it was near zero, suggesting that the option market, at least, is not (yet?) looking for any real drama.

On the other hand, the gap between USD-INR 3-month implied volatility (6.58%) and the realised volatility over the past 90 days (4.55%) is huge and has been sustaining for the past month or so. This seems to suggest that the market is expecting some sort of dramatic move in the rupee over the next few months. With global markets apparently not bothered (as my client is) by November 3, perhaps our market is focused on other, more local issues—the Bihar election, perhaps.

With the absolute value of the historic volatility very low and substantially below its 100-day average, the possibility of a break out is real. However, on the upside, 73 looks well protected by RBI; this leaves a downside break-out as a possibility. Having said that, though, there appears to be some reasonably strong support (technically) at 74.50, and then 75.

Importers should pay heed, particularly as during the lockdown, there are no chanawalas around.

www.mecklai.com

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