The USD-INR exchange rate is a significant gauge of the investor confidence which can impact both the individual firms and the government. The Indian rupee has turned out to be Asia’s worst performing currency so far this year. The timing couldn’t be any worse. Indian Rupee has plummeted around 12% in the midst of a global trade war. Sudden weakness in the currency can create a surge in the import bills.
From last six months, the Indian Rupee has been on a roller coaster ride, making impossible for the importers and exporters to identify the correct trend of the currency. Though Indian Rupee is not the only emerging market currency struggling to climb back, the recent plunge has made investors anxious.
Reasons why Indian Rupee has declined
- Rise in Oil Prices – The crude oil prices have rallied in the past quarter. The surge in the oil prices have resulted in the increase in India’s import bill who is a net importer of crude oil. The international benchmark Brent crude breached the USD 81 a barrel mark by surging over 3 percent to trade at USD 81.28 a barrel. In spite of US President Donald Trump calling for an increase in global supply, Russia and Saudi Arabia have refused to raise any output.
- Trade War- Indian Rupee is sure the worst performing Asian currency so far this year; however, other emerging market currencies like Turkish Lira, Argentine Peso, Brazilian Real and South African Rand have also dipped to record lows due to the global trade war fears. The ongoing risks and uncertainties have induced investors to find a safe haven which is US Dollar making it stronger than other currencies.
- Reduced Central Bank Intervention– Earlier in the year, the Reserve Bank of India was active in selling US dollars from its foreign-currency reserves in order to prop up the currency. The pace of intervention has been reduced in the last two months even during the Turkey crisis. The analysts predict that RBI’s reduced intervention is the result of the already squeezed liquidity in the Indian economy which could get worse if Central Bank started selling more US Dollars. The RBI has been selling dollars, albeit in a restrained manner, leading to a drop in India’s foreign exchange reserves to $400 billion from a record high of $426 billion in mid-April.
- Pre-Election Year- A widening government’s fiscal deficit before the elections are also weighing on the Indian currency. The rupee has often depreciated against the dollar for a period of 12 months prior to the general elections. Since 1984, Lok Sabha elections were held nine times. Of these, the rupee weakened on eight occasions and the fall was in double digits five times. In 2004, it bucked the trend and appreciated by 6.4 percent.
- Federal Funds Rate Hike- The Federal Open Market Committee (FOMC) on Wednesday, raised the fed funds rate by 25 basis points. The US Central Bank also stated that it plans to increase the key rates one more time before the year-end and three times in 2019. This can be a major support for the dollar and the cause of further weakening in the other currencies.
Government’s Plan of Action
- Increase in Customs Duty- The Indian government has hiked the customs duty on 19 items which include refrigerators and air conditioners to curb “non-essential import”. As stated by the Ministry of Finance, the import value of these items was INR 86,000 crore in 2017-2018. The Indian rupee rose 22 paise against US Dollar after the news.
- Central Bank Measures– The Reserve Bank of India has assured durable liquidity to the banks by easing the mandatory cash requirement rule for the banks. The Central Bank took this step in order to provide strength to the markets in case of any credit crunch.
Investment in INR for NRIs
In the past, mostly the falling INR against US Dollar had boosted the Indian stock markets. This has majorly to do with Reliance Industries Limited and Infosys which are the major contributor to the Indian indices and have dollar-driven revenues. That being said, the investors in India and outside need to pick the right investment avenues.
- Sectors which may benefit- The ultimate benefit of the plunge in Indian Rupee will fall on the IT sector. The technology companies get their maximum revenue in dollars by exporting the services. In this case, the IT companies which have unhedged exposure to their overseas sales income should be an attractive area to invest. The companies in the pharma sector with US exports as a primary part of the sales are also worth investing. The automobile and the metal sector will face mixed reactions as the companies like Maruti Suzuki and Asian Paints could get hurt due to their reliability on import while TVS Motor will gain an edge due to increased export sales during the last quarter. Oil explorers will also gain from the dollar-denominated sales.
- Sectors which may suffer– The Cement companies rely heavily on the imported coke and diesel which puts this sector into a questionable position. The aviation companies may suffer too due to the increased prices in jet fuel and the dollar-denominated revenue. Similarly, oil marketers who mostly, purchase their main material-crude oil in dollar terms could get hurt. Also, the rising government bond yield can increase the cost of the borrowing the future which will hurt the companies with higher debt levels.
- Stay Away from the commodities- It is better to not invest in the metals or industrial commodities as the volatility in currencies and crude oil can have an adverse impact on the rest of the commodity prices.
- Hedging Exposures- The investors who already have portfolios in Indian equities may face the depletion of the returns due to the strengthening of US Dollar. Such exposures can be hedged through primary trading platforms like Dubai Gold & Commodities Exchange (DGCX) platform.
- Bond yield– The Indian 10 Year government bond yield has surpassed the psychological 8%, which makes it an attractive investment avenue against equities.
Overall, the fall in Indian Rupee can be beneficial for selective equity sectors; however its impact on the macro stability of the country is of grave concern. India’s Prime Minister Narendra Modi benefited from all these macro factors in his favor for three years. Now they are all unwinding, and that unwinding is happening at an extraordinarily inconvenient moment.