Rate cut meets a falling rupee: India’s markets enter a new tug-of-war

Rate cut meets a falling rupee: India’s markets enter a new tug-of-war

The RBI’s latest monetary-policy move arrives at a time when macro crosscurrents are pulling investors in opposite directions. The 25-basis-point repo-rate cut to 5.25% and an explicitly growth-first stance from the central bank signal one clear priority: support domestic demand at all costs. With both the government and RBI aligned in reviving momentum, the message from policymakers is unambiguous — India will not hesitate to deploy liquidity and rate easing to prevent any slowdown in growth.

But for equity markets, the implications are far more layered.

The rupee’s steep slide over recent weeks — having breached the Rs 90 per US dollar mark — has pushed the currency into what many global strategists now describe as “undervalued territory.”

In theory, a cheap rupee should support foreign institutional investor (FII) flows by making Indian assets more attractive on a currency-adjusted basis. Historically, phases of currency undervaluation have preceded periods of foreign inflows, as investors position for mean reversion.

However, the backdrop today is different. The rapid depreciation, combined with India’s unresolved trade tensions with the US and the absence of any formal deal, has added a layer of unease about macro stability. For global allocators navigating geopolitics, supply-chain rewiring, and tariff uncertainties, the currency discount alone is not yet a strong enough catalyst to re-rate Indian assets.

Paradoxically, the same currency weakness that could lure foreign flows into Indian assets also strengthens the case for Indian investors to look abroad. A depreciating rupee mechanically improves returns from global equities when converted back to INR. For well-heeled investors and family-offices, this offers an additional hedge against domestic volatility.

With regulatory channels such as overseas-focussed funds, GIFT-City structures and existing global-allocation platforms, the directional case for international exposure is improving. While absolute flows may not explode — especially with rising compliance and cost burdens — the tilt toward global diversification seems more justified today than in recent years.

Coming back to equities, one thing is crystal clear: both fiscal and monetary authorities are backing growth, strongly. The MPC not only cut rates, but also announced a substantial liquidity-boost — via open-market operations and planned USD/INR swaps — to keep credit flowing.

On the RBI’s updated baseline, FY26 GDP growth is now forecast at 7.3%, while CPI inflation has been pared back to 2%. This “Goldilocks” mix of growth and benign inflation — rare in recent times — may help stabilise household demand, credit growth and corporate earnings.

In this context, equities stand to benefit. As one can make a strong case for an earnings recovery. Especially cyclicals such as banks, consumption names and industrials could see traction. Besides, domestic liquidity, backed by sticky retail flows and rising SIP participation, has repeatedly acted as a market floor even when FIIs turned cautious.

In short, the market now sits at the intersection of two opposing forces:

Supportive domestic liquidity plus explicit policy stimulus, and a fragile global narrative plus currency-led macro unease.

If earnings deliver — still the single most important swing factor — Indian equities should stay supported. But investors should brace for range-bound markets, not a euphoric rally. Domestic investors will likely anchor valuations, and policy remains explicitly growth-positive.

However, if the rupee stays under pressure, or if trade uncertainty deepens, foreign investors may stay on the sidelines, limiting upside potential. A key risk: continued heavy supply of equity paper which steals away secondary markets.

Another blind spot for the markets could be the upcoming budget – how the government is able to balance spending to support growth while keep its word on fiscal consolidation. Here too much will depend on whether domestic demand growth can compensate for the tax loss post GST cut. This picture is still not clear.

In short: the MPC has reinforced a growth floor, not triggered a new rally. Boring as it may sound, the next leg now depends on earnings —and whether macro anxieties fade quickly enough for confidence to return.