Expect the currency to trend broadly in the 73-76 range in the months ahead.
Upasna Bhardwaj
May 15, 2021 / 08:39 AM IST
We expect the currency to trend broadly in the 73-76 range in the months ahead.
The Indian rupee over the last 15 months has followed a unique path defying global cues all along. Despite a broad-based dollar weakness and robust external balances, INR was one of the worst performers in the EM currency space in 2020.
On the other hand, even as the dollar gained momentum in the first quarter of 2021 and all other EM peers delivered weak performances, the rupee traded nearly flat in 1QCY21.
However, 2QCY21 has again turned unfavourable for INR even as the dollar gains have receded and most Asian currencies are trading 0.5-2.5 percent.
While the 2020 underperformance of INR can largely be explained by aggressive RBI intervention, the recent weakness in the currency is more driven by endogenous factors. While the initial sell-off trigger in INR came by the reassurance of RBI to conduct asset purchases through a calendar (surprise shift in stance from an implicit yield curve control to an explicit one), the impact got magnified as markets started to unwind the skewed short USD positions amidst downside risks arising from the surge in Covid infections with RBI staying on the side-lines (a stark departure from the previous FX management behaviour by RBI).
In March, RBI’s long USD forward position stood at an unprecedented USD73 billion (compared to short position of USD 4.9 billion in March 2020) signalling the sharp short USD positions held by the market. Such record long positions accrued over the last year has led to persistently high pressure on forward premia – a steep distortion between the FX implied yields and money market rates.
Given the recent guidance by RBI for a hard yield curve control and the comfort of the current level of systemic liquidity, we expect RBI’s ability to be limited to take full delivery of the record high outstanding forwards –rollovers would continue to put upside pressure on the premia.
However, with the near term prospects of INR broadly remaining weak amidst the significant lag in vaccination drive compared to the rest of the world and the reversal of the current account surplus back towards deficit, especially with surging commodity prices, we expect the currency to trend broadly in the 73-76 range in the months ahead.
The weakness in INR in the 74.50-76 range will trigger export hedges thereby capping the forward premia as well. The one-year forward premia should broadly trade in the 5-5.5 percent range.
Disclaimer: The views and investment tips expressed by the expert on Moneycontrol.com are his own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.
Upasna Bhardwaj is a Senior Economist at Kotak Mahindra Bank.
