Rupee to get some relief if US yields drop: Barclays Cap

All emerging market (EM) currencies have depreciated against dollar in the last few weeks, the rupee fell to a record low on Monday and went beyond 61.

According to Nick Verdi, Currency Strategist - Asia at Barclays Capital, the selloff in US treasury markets has been fairly dramatic and has hit high yielding emerging markets (EM) currencies very hard. However, he expects this to reverse and EMs to get some relief.

He further added that the current account deficit (CAD) remains a major concern for Indian economy.  It came in at a record high of 4.8 percent for FY13 and now it need to be brought down in the current fiscal.

Below is the verbatim transcript of his interview to CNBC-TV18

Q: Do you think that we are going to see continued pressure on all the emerging market (EM) currencies? What are the flows into EM funds telling you that there is a long hard road ahead?

A: There is a very tough environment. Let us just remember that this has all been driven by the US. I think that is a good place to start. We are still of the view that this move in US Treasury Yields should be faded. We think yields will move a little higher.

Things have got a bit ahead of themselves now and Fed is the only communicating tapering rather than tightening. So, I think that this selloff in US treasury markets has been fairly dramatic and has hit high yielding EM currencies very hard.

Some of this will be reversed and EMs should get some relief, but we are not quite there yet clearly.

Q: How would you look at the currency's inherent value itself if you could start with the rupee? The substantial fall that the rupee has seen, nearly 12 percent in the past 6-8 weeks does not discount the negatives in the economy substantially, the Current Account Deficit (CAD), fiscal deficit and the inflation pressures. Would it not get seriously undervalued at these levels? Would that be an argument to plug its further decline?

A: The decline so far has been very sharp. Of course the problems that the Indian economy has with respect to its twin deficit, this issue were here when dollar-INR was at 55, so that has not change. What has really changed is this 100 bps plus move in US treasuries in the space of a couple of months. It does seem as though investors in EM markets will not be ready to dip their toes back in until they are more comfortable with the fact that US rates have stabilized.

In some respects it is not even about the level of rates, it is more about volatility and the fact that they keep going up and investors are just feeling very uncertain here. What the Indian authorities can do to stem some of this currency weakness? We did get a directive with respect to the speculative positioning, so I think we will see more of that across EM, but history tells us that that in it can only be a stopgap solution.

 At least from India's perspective one positive is that this is an overwhelmingly international phenomenon. India is being singled out. So, it does mean that if this one source of weakness is taken away i.e. US yields then the Indian Rupees (INR) should get some relief.

 Q: Talking about the relief that you expect in the EM currencies, in particular rupee where do you see perhaps the rupee trading at? Do you recommend someone should go long at levels of 60-61 and if yes what could be the level that they could see?

A: We are recommending that investors do go long, but at the moment it is very difficult to short the US dollar. So, I think it is worth looking at relative value across EM. The one way that we would like to play the Indian rupee is versus the Singapore dollar which still looks expensive to us on a fundamental basis.

 

So, I think relative value within EM will be the first stage of the recovery process for some of these currencies that have been battered in recent weeks.

 

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Q: You have been speaking about the impact that the rise in US yields have been having. What are you seeing as the trajectory of US yields? After all even at 2.7 percent it is still pretty low. Where do you see it going to by the year end and in the next 12 months?

A: We think by year end yields will settle down to 2.5 percent level. The next year we will crack up to around 3.25 percent. The key thing is if we do get to 2.5 percent by year end that would mean that the markets move back into line with fundamentals. The US labour market is anyway recovering very slowly. The economy is only getting a little more sequential momentum. We still had a one handle GDP growth, that is in the first half of the year and we are looking for modest pick up to 2-2.5 percent in the second half and historically that is still a fairly weak recovery.

 

These levels of yields are just very low still, but the fact is they have just been on a straight upward march and once market see volatility dissipate a little bit and yields stabilise then things will calm considerably.

 

Q: What is the house view about when the Fed is likely to taper and by how much? Is it already priced in by the markets?

A: We think the Fed will taper by September, I think that has been broadly priced in now. We also think that the purchases will end by February or March next year.

Q: What are you expecting to hear from the Federal Open Market Committee (FOMC) minutes on Wednesday and would that also be somewhat as market moving as the payroll data was?

A: I think the market is positioned for something quite hawkish and I think it will get that, the key reason being that these minutes will refer to a meeting that has already happened. There will be some comfort displayed by the members of the committee in the minutes on the fact that the US economy and US stock markets are able to live with higher yields.

 

I think that will give them a significant degree of comfort and we are still seeing that now of course. Stock markets in the US are holding out very well in the face of high yields and this is almost like an old normal if you like. The market is pricing in a traditional cyclical recovery.

 

Q: Did you have a look at the measures which were taken by the Sebi as well as the RBI yesterday about increasing the margin and curtailing the position limits at the client level? Have you had a look at it and if yes, your reaction?

A: I think it is a step in the right direction, but the fact is if authorities are having to issue directives such as these then they are clearly concerned. I would not use this as a sign that the authorities are panicking. If you look at what other central banks are doing globally as well, if you look at the South African for instance, I think they realise is that the fact is that the whole world is being affected by this. There is only so much that individual countries can do to offset it. I think what was announced yesterday will only have a limited impact.

Q: Would you look at some dollar-rupee levels as possible anchors at least for the short-term? Does 60 or 61 look like tough to break?

A: Each big figure has looked very tough to break and we have of course been through it. I would say that once we are through the FOMC minutes this week and the Bernanke\\'s speech on Wednesday if we have not breached 61 then that could be a key pivot point and a good time to go long rupee.