Is it the right time to hedge?
The above graph is line chart of USDINR 12 month forward Premia (in % terms) from 3rd Oct 2016 till today
An upset victory by Donald Trump at the start of November completely turned US interest rate scenario on its head, with a huge sell off in Treasuries on the perception that the loose monetary and fiscal policies likely to be followed by Trump administration would see inflation rising and therefore a strong rise in interest rates. The subsequent rise in the Dollar saw the emerging market currencies being squeezed along with a sell off in their bond and equities market. India was no exception with the rupee falling to test its all time low of 68.86 last week.
The fall in premiums have been part of this global story, but has been complicated by domestic events. The strong US economic data over the last month and Yellens strong comments on the certainty of a rate hike in December has been steadily factored into the INR forward premia over the last month. In addition, the demonetization announcement on November 9, has seen the banking system being flooded by deposits to the tune of Rs 3 lac Rs 4 lac crore with interest rates sliding down across the board. Last week, overnight call money rates slipped below the repo rate to 5.95% and the ten year G-Sec yield fell as low as 6.12%. Forward premiums tanked through November (as seen in the graph) with the interest differential squeezed from both ends, perception of higher rates in the US versus lower rates domestically. Overall, 12- Month forward premia dragged down from 350 to 252 paisa, thus lowering the annualized percentage from 5.25% to 3.7% in November.
In a shock move over the last weekend, RBI extended 100% CRR coverage of all deposits collected between September and November 11, effectively sucking out liquidity from the system in one step, which saw interest rates correcting rapidly yesterday from levels seen last week. Overnight call money rate has moved back to 6.60% and the ten year G-Sec has moved back over the repo rate back to 6.32%. Forward premiums have also corrected with this move, with the annualized premium at 4.10% as RBI continues to do a balancing act to maintain rates at these levels by increasing the frequency and amount of repos in the market.
For exporters looking to cover in the medium term and long term, the current levels on spot and premia are attractive but vulnerabilities in both global and domestic markets are only likely to push the spot levels lower in the coming days. However it would be prudent to note that RBI seems to protecting the 68.85 level studiously so you would probably be speculating if you are waiting for levels below that. Forward premia is unlikely to move much further up because the liquidity in banks is probably likely to tick up and/ or the RBI may be forced into a rate cut either immediately or at least in Feb to support the lower growth ion account of demonetization Importers would probably profit waiting till a domestic rate cut happens which could push up the rupee in the medium term. With Dow and treasuries easing from their all time highs, the time also looks ripe for the Dollar to take a breather and give other currencies some room to breathe.