The rupee has been the third best-performing Asian currency this year and has surged 4.63 per cent in the March quarter, its best quarterly gains since September 2012 buoyed by strong inflows from foreign investors due to better domestic and global developments.
Strong macro economic fundamentals, including a substantial decline in India’s differential inflation index, political stability is making the rupee a strong bet for foreign investors. Total investments by Foreign Institutional Investors (FIIs) and Foreign Portfolio Investors (FPIs) in both equity and debt during January to March 2017 stood at Rs 68,627 crore. However in the medium-term, widening of the current account deficit and a pick up in inflation would lead the USD/INR pair moving to 68 levels by the year end said analysts.
Rupee rally
The rally in the rupee reached higher levels post a prudent budget from the government, muted impact of demonetisation on GDP estimates and a historic mandate in Uttar Pradesh for the ruling BJP that further strengthened the rupee, making it more expensive than other peer currencies. At the end of the financial year 2016-17 on Friday, the rupee stood at 64.85 to a dollar and the yields of the 10-year government bond at 6.68 per cent, both rallying considerably higher than their year’s start. The rupee had started the last fiscal year at 66.21 a dollar and the bond yields were at 7.47 per cent.
Both domestic and international dynamics have been favourable. Globally, winding down of the “Trump-trade” has led to a 3 per cent decline in the dollar index (2017). The fair value of rupee has changed from around 67 to 65 currently. Even the room for intervention has been limited, not allowing the RBI to stem appreciation pressures.
In the recently-concluded state assembly polls, the BJP formed governments in four out of five states that went to the polls.
“With rising interest rates in the US and growing uncertainty around China, emerging markets trade took a hit. Now, it looks like emerging markets trade is back on the radar. There has been a host of factors on the domestic front leading to substantial gains in the rupee. Our analysis shows that the swing in domestic factors explain around 52 per cent of rupee appreciation in 2017,” said Abheek Barua, chief economist of HDFC Bank.
Inflationary pressures
“As inflationary pressures pick up, this fair value estimate would undergo a gradual change. The current account deficit is likely to widen from 0.6 per cent of GDP in FY17 to around one per cent of GDP in FY18 and inflation is expected to pick up from around 4.5 per cent in FY17 to 5.1 per cent in FY18. We believe that this would lead to mean reversion in the USD/INR pair towards 68 levels by year end,” added Barua.
“The recent move in the rupee is partly frothy and may fade. Narrowing inflation differential will be reversed as favourable base effects for India will fade. We believe the rupee will depreciate to 68-69 range by December 2017. Global political risks and strengthening of the US dollar could be key factors affecting USDINR,” Sahil Kapoor, chief market strategist at Edelweiss Broking Ltd.
“Three years back, inflation was at 7-8 per cent but has narrowed considerably since. The inflation differential between US and India has fallen considerably. In addition, political and economic stability is making India more attractive than its peers. However, the current level of the rupee is slightly over-stretched. Normally, March is a month which sees 3-4 per cent appreciation in the rupee while it gets weakest in May. The rupee will depreciate to 65-66 levels in the short term,” said Abhishek Goenka, founder and chief executive officer of India Forex Advisors.
The Nifty hit a record high of 9,218.40 on March 17. For the quarter, the Nifty rose 11.9 per cent, its best performance since the April-June quarter of 2014 when Narendra Modi was elected to power. In the 2016/17 fiscal year so far, the NSE has surged 18.5 per cent, rebounding from an 8.9 per cent fall in the previous financial year.
