Rupee Seen On The Backfoot As Oil Prices Rise

After a weak April-June quarter, when the rupee was among the worst performing Asian currencies, the Indian unit is poised for more weakness.

The rupee fell 1.6% against the dollar in the quarter ended June, second only to the Thai Bhat which fell 2.3%. Since then, oil prices have risen and India’s trade deficit has widened, leaving analysts to forecast further depreciation in the rupee.

This could put further pressure on the currency.

“The combination of an up-move in the dollar index and stronger oil prices is always a negative for the rupee,” said Anindya Banerjee, deputy vice president for currency derivatives and interest rate derivatives at Kotak Securities. Usually the rupee would weaken more under such conditions, however this time FDI inflows and corporate debt flows have stemmed the weakness, he said.

While foreign inflows into the government bond market have remained weak, a steady trickle of funds has come in via the equity markets and through the voluntary retention route, used mostly for corporate debt securities.

In the April-June period, equity markets saw foreign inflows of Rs 4,602 crore, with flows picking in June after two months of outflows. Another Rs 4,406 crore came in via the VRR route in this period, while broader debt flows were negative at Rs 10,505 crore, data from the National Securities Depository Ltd. shows.

Dollar inflows are a clear indicator of ultra-loose monetary policy and that has prevented a sharper depreciation in the rupee, Banerjee said.

The rupee remained range-bound over much of 2020 but forecasters now see it breaking out of that range.

Over the next quarter, analysts see the rupee in a range of 73.50-76 against the dollar, forecasts available on Bloomberg show. Over a one-year horizon, some research houses such as ABN Amro and Kotak Mahindra Bank, are expecting the rupee to depreciate to 77 per dollar.

Overnight, brent crude oil prices rose sharply after the Opec+ failed to reach an output deal.

In a note on Tuesday, Saugata Bhattacharya, chief economist at Axis Bank, wrote that every increase of $10 per barrel translates to higher outgo of $17.3 billion for India, widening the current account deficit. In addition, every 10% increase in pump prices of petrol and diesel results in a 52-basis-point rise in CPI inflation locally.

The higher oil prices, together with the nervousness over inflation in the U.S. and the possibility of tapering of the Federal Reserve’s bond purchases, remain key factors for the Indian currency, said Samir Lodha, head of treasury consultancy QuantArt. Lodha expects the rupee to move towards 77 per dollar.

Banerjee sees a level of 76/$ over the next three months. “This time the markets have been well prepared and the taper is also priced in, so unless unknown risk hits the system it is unlikely to move beyond that,” he said.

Both agreed that the rupee is unlikely to appreciate beyond 73 per dollar as the Indian central bank continues to absorb dollar inflows to prevent a sharp appreciation in the currency.

Madhavi Arora, lead economist at Emkay Global, said the rupee’s direction will also be determined by the RBI’s forex reserve accumulation strategy and upcoming initial public offerings. The latter can impact short term direction as large inflows ahead of these IPOs could lead to some appreciation in the rupee.

Over the medium term, the RBI will ensure that the rupee is a “mediocre performer” while preventing undue appreciation and supporting any fall in the currency at crucial levels, said Arora. The central bank has accumulated $609 billion in forex reserves, allowing it greater room to intervene if needed.

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