Key Reasons Behind Better Rupee Performance

Gaurav Dua
Head-Research
Sharekhan

India has done better than most emerging markets in the recent tapering tremours driven risk aversion sell off. Unlike June/July 2013, the rupee has largely remained stable (within a range rather than a free fall). FII inflows are also marginally negative in January 2014 as compared to outflows of USD 1 billion plus each month during June-August 2013. The relatively better performance is driven by three key reasons: 

1. Current Account Deficit has come down considerably on the back of reduction in gold imports and surge in exports
2. RBI has raised over USD 20 billion through FCNR deposit scheme boosting foreign exchange reserves 
3. Expectations of a change for better in the 2014 general elections. Though we do not expect India to remain unscathed by global issues, the damage would continue to be limited this time around

On the earning front, as of now, Q3 results have exceeded expectations with robust performance from export oriented companies (IT, Pharma, Textiles, Auto Anci etc) and large corporation with significant overseas operations such as Tata Motors, Tata Steel etc). Among laggards are usual suspects such as cement, public sector banks, construction and certain consumer companies.

Coming to the currency front, we expect INR to move in a narrow zone of Rs 61-63.5 against USD. As explained earlier the improving trend in reduction of CAD, higher exports and RBI’s inflation targeting would support the rupee. 

We believe that the RBI is not yet done with interest rate hikes and the recent emphasis on implementation of the Urjit committee report to focus on consumer inflation indicates a hawkish undertone. The central bank understands that the fiscal measures to control inflation would be limited, given the elections ahead and a lot of onus is on RBI to keep inflationary expectations anchored in the medium term.

Talking about markets, the forthcoming general elections domestically and the fallout of steps taken to tighten liquidity by US Federal Reserves on global financial system and emerging markets would greatly influence the direction of markets in the coming months.

The gap between developed and emerging markets have widened to levels last seen in 2008/2009 as lots of hot money (including ETFs) have flown back to developed markets in hopes of better returns with recovery in the US and Europe. We believe that the wide valuations gap between developed and emerging markets, coupled with possibility of disappointment on the expected path of economic recovery in developed markets would bring back interest in emerging market assets. 

We expect the export driven IT services and pharma sector to continue with outperformance. We are also positive on private sector banks and rural demand driven companies like Dabur, Britannia and Zee Entertainment.

Given the sharp bouts of rallies and correction, retail investors would have to be more nibble with their investment in the high beta stocks/sectors. On the other hand, the volatility gives an opportunity to build an attractive portfolio of quality stocks (from the two investment themes of exports and rural demand) for little longer term perspective.