rupee depreciation: What’s next for the rupee after breaching 88 against the dollar?

Mumbai: All eyes are on the rupee. Banks have cut trading positions. Many importers, sitting on large unhedged positions, are bruised. Anxious corporates, which struck over-the-counter forex derivative deals in the hope that the rupee would stay range-bound, are now praying the currency does not cross 89.

And, banks and businesses are left wondering whether the Reserve Bank of India (RBI) would let the rupee slide more to support exporters rattled by Trump tariffs. It’s a thought playing in every mind in the market after the local currency breached 88 against the dollar on Friday to touch a new low.

“It will be interesting to see how far RBI is willing to allow rupee depreciation. With exports estimated to fall a bit, bear pressure on rupee will be sustained unless US tariff issue is resolved quickly,” said Haresh Desai, a market veteran and founder of Rajwade Treasury Consultants. With inflation not posing an immediate worry, market watchers tend to believe RBI may not step in to sell dollars in a big way.

Let rupee Slide?

According to Samir Lodha, a former banker and MD of QuantArt, which advises several corporates, “While there was some month-end demand, the rupee slipped past 88, most probably because RBI stepped back. Left entirely to the market, these levels would have been seen a week earlier, which suggests it could be more of a ‘decision’ to allow the rupee to slide. In that case, further weakness in the rupee is possible.” That said, the caveat remains: it’s a news-driven market, and a single tweet or unexpected headline could quickly push the rupee back to 87, he said.

One such significant, though not unexpected event, this week would be the US non-farm (or, job) report scheduled to be released on September 5. If the closely-tracked monthly economic data point is revised downwards, it would raise hopes of an interest rate cut in the US and lend some support to the rupee. “In August 2024, the revised number was lower than what was initially reported. Traders are waiting to find out if that will happen this year too,” said a senior banker.
Besides supporting export competitiveness, a weaker rupee could also come handy in generating a large RBI surplus and dividend payout to the government next year when fiscal pressure is expected to rise, thanks to higher salaries and pension to central government employees and retirees on the back of the 8th Pay Commission and lower GST rates.

New Guv, New Style
It is impossible to assess at what level of undervaluation a central bank would step in to support the domestic unit. Often, it’s a function of personal beliefs and assessments of key persons in RBI. It’s even possible that like many in the market, RBI, too, believes that the 50% tariff is too absurd to sustain and a middle ground would be reached after a few months.

However, one thing everyone has figured out: under RBI governor Sanjay Malhotra, the rupee has been more flexible. It has fallen over 3.3% since the end of March when the exchange rate was 85.47.

Bankers and corporate treasurers had for long harboured the belief-reinforced under the former RBI governor Shaktikanta Das-that the local currency would move in a narrow range. Indeed, some of the derivative deals that importers had entered into to lower their cost of dollar purchase (and hedging) were cut on the basis of such an assumption. Now, if that changes, it would hurt many companies, though the number would be far lower than past casualties from synthetic derivative losses.

Derivative Jitters
A popular derivative product is ‘Seagull’, where an importer buys call (right to buy dollar) at a lower strike price, sells call (obligation to sell) at a higher strike price, and sells put (obligation to buy) at yet another price.

Here, an importer’s gain would shrink once the exchange rate in the market breaches the strike price at which he sold the call.

For many, the strike price was above 88. “Seagulls and call spreads are good options when managed well. With tools and understanding, they can be managed-converted into vanilla hedge or full hedge. Companies, which do nothing even when the rupee weakens, would lose,” said Lodha.

Unfortunately, many corporate treasuries have been complacent about rupee stability despite the growing evidence that headwinds are coming, said Desai.

This is a tricky situation, especially for net importers and foreign currency borrowers, who may be in for a roller coaster ride in the coming months. “A few corporate treasuries with seagulls (and call spreads) taken as so-called “hedges” could also suffer huge losses, and in any case massive swings in their quarterly profit and loss on mark-to-market valuation changes,” said Desai.