The Indian rupee has been hitting consistent record lows in recent times. The currency breached the psychological barrier of 60 to the dollar on June 26 and entered a bearish zone. Strong economic performance by the US, and continued monetary easing by Europe and Japan strengthened the US dollar and increased the demand for it. Not just India, the other emerging markets also started facing heat because of this situation.
Foreign institutional investors (FIIs) started moving back to US markets and the dollar by liquidating their investments in emerging markets. This further aggravated the downfall of local currencies. So, how does the fall of rupee impact the current investments being held by the individuals and how can you make money with falling rupee?
Equity investments: Expect volatility
Historically, the broader market indices, the Sensex and the Nifty, have maintained a negative correlation with the USD-INR ratio. The strength of the dollar has been a primary reason for rupee devaluation. Added to the dollar factor, Indian markets have been heavily dependent on FII inflows over past few years. FIIs follow the general trend of investing in emerging markets during an economic slowdown in US and withdraw their investments once the US economy recovers and the dollar strengthens. With more positive data from the US coming in, we can expect more FII outflows and Indian rupee may be under pressure in the coming months. The markets are expected to remain highly volatile during this phase.
While the broader markets are negatively impacted by weaker rupee, it has a varying impact on different sectors. While the import-heavy sectors are negatively affected, sectors which rely on exporting their services will find it beneficial. The depreciation of the rupee is not just confined against the US dollar, and has been losing its value against other major currencies as well. This makes import of raw materials costlier.
What should you do?
Winners: Sectors like IT and pharma, whose revenue is governed by exports, gain from the fall of rupee.
Losers: Sectors such as telecom, automobiles, FMCG, petroleum and power.
The highly volatile markets during the depreciating phase of the rupee offer multiple entry and exit points for investors. For investors with high risk tolerance and long-term investment horizon, this phase marks an ideal entry point.
Gold for long has been a favorite investment avenue for the Indian investors. On the global front, gold prices have plummeted since December 2012 mainly because of the signs of recovery in the US economy. On the domestic front, though, gold prices have declined. Prices were offset by the falling rupee.
In a move to curb the current account deficit, the import duty on gold has been increased by the Indian government. Under such circumstances from the investment perspective, gold costs lesser in paper format as opposed to physical form.
What should you do?
With the dollar regaining its stronghold, gold is expected to underperform in the coming months as well. Refrain yourself from investing the entire available surplus only in gold. Based on your risk tolerance, invest in gold as a hedge against any political and economic uncertainties.
Fixed income investments
The Indian debt markets were well supported by FIIs till the mayhem in June. Debt markets in India rallied over the last year on the back of interest rate cuts by the Reserve Bank of India. Most of the investors benefitted from their debt investments during this period. However, a depreciation of the rupee would have an impact of debt investments as well. Subdued inflation numbers have been a driving factor behind the interest rate cuts by the RBI over the last year. The inflation numbers are once again expected to move higher due to weaker rupee. One-third of the items considered in calculating inflation rates in India are dependent on imports. Since the imports get costlier as the rupee depreciates, inflation rates are also expected to be recorded higher. Higher inflation rates would force the RBI to postpone its interest rate cuts. So debt investments are expected to put up a subdued performance this year. The volatility of the Indian rupee and outflow of FIIs would inject interest rate risk in the debt investments. The long-term gilt funds are expected to hold higher risk among the fixed income investments.
What should you do?
Risk-averse investors: Go for fixed deposits
Short-term investments: Money markets, if the tenure is less than one year; short-term debt instruments if the tenure is between one and three years.
Long-term investments: Long-term debt investments bear a higher interest risk. Analyze your liquidity before opting for them.
Written by Arthayantra