Rupee rebound bets vanish as soaring crude blunts inflows

With oil prices on the ascent again, bets that tens of billions of dollars in fresh capital inflows would sustain a recovery in the Indian rupee have all but vanished.

A more than 20% jump in crude oil in two weeks has prompted analysts from Danske Bank AS and Ebury Partners Ltd. to predict fresh lows for the rupee against the dollar. A central bank-led policy blitz to attract foreign capital — estimated by Citigroup Inc. to fetch as much $80 billion — has at best proved to be fleeting in effect as the rupee has slid about 2% from a June high and is hovering near a record low.

What makes the Indian currency more vulnerable than some of its Asian peers is the country’s reliance on imported energy and its ripple effect on the broader economy. With the US-Iran conflict intensifying, concerns over an energy shock are back on traders’ radar, as a weaker rupee is likely to fan inflation, raise subsidy costs, squeeze corporate profit margins and widen the current account deficit.

“Unless oil risk fades decisively and portfolio inflows become more durable, we think the path of least resistance remains modest rupee depreciation into year-end,” said Barry Van Der Laan, a senior FX strategist at Monex Europe Ltd., ranked second among Bloomberg’s top rupee forecasters.
On Monday, the Reserve Bank of India stepped in to support the rupee as it came within striking distance of the record low of 96.9650 reached on May 20. But the central bank may be unable to prevent it from sliding further, and at best can it smooth the rupee’s trajectory, according to Van Der Laan, who sees the currency hitting 98 per dollar by year-end.

In an ominous sign for the rupee, signs of fading foreign interest in Indian assets have started to emerge. Overseas funds were net sellers of $690 million stocks last week, and their purchases of index-eligible bonds have also moderated from a surge seen after a tax waiver last month.
Fed Hikes
The trend may persist given the outlook for rate hikes by the US Federal Reserve later this year, which may further narrow the bond yield differentials and deter foreign investors. Add to that, Indian equities lack investment opportunities linked to artificial intelligence boom, which has powered recent global stock rallies.
A sustainable rebound in the rupee is difficult “while there is potential for the Fed to hike rates later this year as well as investors remaining concerned about the growth potential in India’s IT and professional business services sectors in the face of advances in AI,” said David Forrester, senior strategist and economist at Credit Agricole CIB.

The RBI’s plan to draw tens of billions of dollars in foreign currency deposits from its 35 million diaspora will at best help limit the currency’s losses, according to analysts. Despite the banks offering rates of as much as 7.75% on five-year deposits with 19 times leverage, some investors remain on the sidelines. Banks have mobilized about $17 billion as of July 17.

While such capital flows will add to the central bank’s war chest and may allow it to intervene against acute rupee weakness, the depletion of its reserves in recent years will limit its ability to intervene more aggressively, according to Abbas Keshvani, Asia macro strategist at RBC Capital Markets Ltd.

“Indian authorities’ measures are more of a liquidity band-aid rather than a structural solution,” said Glenn Yin, research director at broker ACCM in Melbourne. “The underlying challenge for rupee remains unchanged — India still runs a structurally oil-sensitive external account while competing for capital in a world where US yields remain elevated, and the fact that global investors are increasingly selective.”