Currency Call. Rupee gets a Budget boost

There was an early celebration in the Indian currency market last week, well ahead of the Budget. The currency gained ground from Wednesday on Federal Reserve Chair Janet Yellen’s testimony indicating no interest rate hike in the US “for at least the next couple of meetings”.

Thus, the rupee opened the week at 62.16, fell to a low of 62.335 on Tuesday, but reversed much higher to 61.72 on Thursday before closing at 61.84, up 0.62 per cent for the week.

There have been apprehensions for many months that US rate hikes could set off a withdrawal of foreign money from emerging markets including India. In this backdrop, the currency markets reacted with relief at this reprieve.

This week is going to be a short trading week, with the markets closed on Friday. HSBC’s Manufacturing Purchasing Managers Index (PMI) today and the Services PMI on Wednesday are the key macro economic data releases scheduled this week.

Foreign investment flows, which have been already pouring in in large quantities since last year, have just been given a further leg-up. The Budget has deferred the implementation of the General Anti Avoidance Rule (GAAR), a rule to check the tax avoidance, by two years (from April 1, 2017). Second, the proposal to remove the distinction between the Foreign Portfolio Investment and Foreign Direct Investment caps for listed stocks is expected to open up new FPI headroom in sectors such as banking. This could further trigger flows. These two moves are expected to limit the downside for the Indian rupee for now.

FPI flows into the Indian debt and equity combined so far this year stood at $9.32 billion ($5.45 billion in debt and $3.87 billion in equity).

Last week, they bought $551 million in debt and $745 million in the equity segment.

However, it could be that currency markets have rejoiced too soon. One major change that earned a brief mention in the Budget was that the government, in consultation with the Reserve Bank of India, would be taking control of capital flows. In this regard, any measures to check or regulate flows, if taken, could be viewed as a big negative by the market.

The dollar index (95.25) was up over one per cent last week. Weak home sales data and the outcome of the US Federal Reserve Chair Janet Yellen’s testimony dragged the US dollar index down from 94.98 to 94 in the initial part of the week. However, the index reversed sharply higher later, led by a 2.8 per cent surge in US durable goods orders in January.

Despite the Yellen factor, the index has breached and closed above its resistance at 95. Technically, there is a breakout of a bullish pennant pattern on the daily chart. The support is now at 95 and key resistance is at 95.5. A strong break above 95.5 can take the dollar index higher to 97 in the coming weeks.

The euro (1.1191), the major component of the dollar index, is signalling the end of a month-long sideways consolidation. A decline to the next support at 1.10 looks likely in the short term. A strong break below this support can take the euro towards parity against the US dollar in the medium term.

The weekly close below 62 is a positive for the rupee. Although Friday’s candle is indecisive on the charts, the short-term outlook for the rupee is bullish as long as it trades above the psychological 62 level. There is a strong likelihood of the rupee strengthening to 61.55 this week. A break above 61.55 can take the currency further higher to 61.3 or even 61 in the short term.

The short-term outlook will turn negative only on a strong break below 62. Such a break can drag the rupee lower to 62.25 thereafter. But technically, an immediate fall below 62 looks less likely. The rupee could remain strong in the short-term.

However, the rupee strength is expected to be limited to 61 — a strong trendline resistance level for the currency. The 50 per cent Fibonacci retracement resistance is also poised at 61.11. The combination of these resistances could limit the upside, thereby keeping the medium-term outlook bearish for the currency. A reversal from 61 will have the potential to drag the rupee lower to 63.5 over the medium term.

COMMENT NOW