Rupee has room to appreciate, RBI unlikely to intervene, says Bank of America’s Vikas Jain

Vikas Jain, Head of India FICC Trading at Bank of America

• Rupee may appreciate 1.5-2% in coming months, RBI unlikely to intervene soon
• RBI holds high forex reserves, not expected to accumulate more immediately
• Surplus liquidity to persist, no rate change expected in upcoming RBI policy

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The rupee could see further upside and the Reserve Bank of India (RBI) unlikely to actively intervene in the market in the near term, Vikas Jain, Head of India FICC Trading at Bank of America, said in an interview to Moneycontrol.

He said it is difficult to pinpoint exact levels at which the central bank may step into the foreign exchange market, especially given the already comfortable level of forex reserves. “While we are at a high level of reserves, we are not expecting the RBI to start accumulating anytime soon,” Jain said. Edited excerpts of the interview:

The rupee has seen a sharp rally after the US–India trade deal. Do you think this move is sustainable or we'll see some volatility?

Since the announcement of the trade deal with the US, the dynamics of the currency market have clearly changed. Sentiment-driven demand for the rupee has strengthened but there are a few things we need to closely watch to predict the future course of dollar-rupee.

First, FPIs are still a bit concerned about the US-India trade relationship, so whether there is a slowdown or pause in flows remains important. Second, there was clearly a timing factor involved in this move. Third, the role of the RBI, whether it intervenes at current levels or starts accumulating reserves again, is something to track.

That said, we are positive at this point. We believe FPIs will reduce their selling and some buying could come in over the next few quarters. Exporters may also look to increase their hedging ratios. RBI, in our view, is unlikely to be very aggressive in rebuilding reserves immediately.

February and March are typically seasonally strong for the rupee. Does that add to your positive outlook?

Yes, February and March are generally seasonally positive months. We expect the current account to be positive as well, which should support the rupee. Given this background, we remain hopeful for the currency going forward.

The RBI already holds large forex reserves, around 11 months of import cover. Given the sharp intraday appreciation on February 3, how much more can RBI realistically accumulate?

It is very difficult to predict exact levels where RBI may step in. While we are at a high level of reserves, we are not expecting the RBI to start accumulating anytime soon.

The rupee has depreciated significantly not just against the dollar but also against the euro and other currencies. Because of that, we believe there is still room for the rupee to move higher and the RBI may stay on the sidelines for now rather than adding to reserves.

RBI’s intervention strategy has been unpredictable recently, especially with the build-up in the forward book due to swaps. How do you see RBI managing this?

The forward book is largely in the three-year segment, though some of it has now moved into the two-year maturity as well. Last year’s $10 billion auction has now become a two-year maturity.

Importantly, the maturities are now spread out. There are some near term forward maturities for next two months and post that there isn’t much. This gives RBI a lot more flexibility. In the immediate term, we need to see whether RBI rolls over these maturities or lets them run off.

In our view, the RBI is likely to roll over those maturities. Overall, I am not too concerned about the forward book at this stage.

From here, how much more appreciation do you see in the rupee?

We believe another 1.5-2 percent appreciation is still possible over the next couple of months. By March-end, we are targeting levels around 88.60-89 a dollar.

There is no such thing as an “ideal” level, but we believe the rupee can move in that direction given current conditions.

Do you expect a turnaround in FPI flows into equities and debt after this deal?

Yes, equities definitely have a good possibility of seeing inflows. On the debt side as well, we have already seen some positive flows and we believe these can continue.

Despite the sharp currency move, bond markets have reacted only marginally. Why hasn’t the bond market cheered this deal?

The deal does not directly impact bonds. It does not open new avenues for bond investors. Bond yields are higher mainly because the market was surprised by the gross borrowing number in the Budget.

Post-Budget, yields moved 5-6 basis points higher. Today, we have seen a small retracement of 3-4 basis points due to the deal. Fundamentally, nothing has changed for bonds, which is why the reaction is muted.

Given rate cuts and higher borrowing, could yields rise sharply again, like in 2022?

Ten-year yields are trading around 6.72 percent, almost a 147-basis-point premium over the policy rate, which is historically on the higher side.

One key reason is that banks have reduced their G-Sec holdings significantly due to changes in the deposit-to-investment ratio. However, we don’t think banks have much room left to reduce this further.

Even with higher gross and net supply, demand-supply dynamics look manageable. Hence, we do not expect a significant jump in yields from here.

Will the RBI need to continue OMOs and liquidity operations in FY27?

If liquidity is required, RBI will provide it. At this point, we believe the banking system will remain in surplus for at least the next six months.

By the end of this week, surplus liquidity could reach Rs 3 lakh crore. Even after advance tax outflows, government spending should support liquidity. Overall, we expect surplus liquidity of around 1.5 percent of NDTL, which is sufficient.

If liquidity remains surplus, RBI may not need to do further OMOs or buy-sell swaps.

Does surplus liquidity get unevenly distributed across banks?

Liquidity gets distributed only if surplus is maintained consistently. If liquidity comes and goes, it does not help the system. If RBI maintains surplus liquidity for a sustained period, it will naturally get distributed among banks.

Going forward, if currency remains supportive and liquidity outflows reduce, RBI may not need additional interventions.

What are your expectations from the upcoming RBI policy?

We are not expecting any change in rates. On liquidity, RBI will commit as much as the system requires.