Rupee Breaks Below Trading Range

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The rupee traded in a narrow range between 71 and 71.5 against the dollar over the past week. The decline that began in the early part of August was halted due to easing market sentiment following a statement from the US trade representative.

The statement said that certain products imported from China, on which additional tariff was proposed in August, were removed from the list. Further, tariff imposition on the remaining items has been postponed to December 15. This positive surprise helped the rupee stabilise.

However, after trading in a range, the currency weakened on Tuesday, and closed with a loss of 0.4 per cent at 71.71 after hitting an intra-day low of 71.80. The negative break-out of the trading range opens the door for further weakness.

Positive news flow like reports of Germany preparing a stimulus package to boost the economy and China reducing interest rate by 10 bps are not helping to improve sentiments. The rupee also faced pressure on increasing crude price, which is trading at $60 a barrel.

According to the recent inflation data, CPI for the month of July stands at 3.15 per cent, well below the targeted level of 4 per cent. Also, WPI for July moderated sharply from 2.02 per cent to 1.08 per cent. This, along with strong pick up in monsoon, provides more leeway for the RBI to carry on more rate cuts in the coming months.

Along with lesser chance of the US Fed reducing rates further, given that it termed its last cut as only a “mid-cycle adjustment”, the inflation rate differential between the US and India might increase further, exerting pressure on the rupee, if the RBI’s rate cuts translate into higher inflation.

A potential rate cut, on the other hand, reduces the interest rate differential, negatively impacting the rupee. Also, if the rupee continues to worsen, foreign bond holders might consider exiting as a weak rupee results in lesser-than-expected returns, resulting in capital flight, further taking a toll on the rupee.

The dollar is in a short-term uptrend, making higher tops since last week. This rally has helped it break above the range between 95.20 and 98. It is currently trading above the upper band of the range at 98.25. Dollar strength will affect all currencies, especially emerging market currencies and the rupee is no exception.

The trend in the dollar index will stay positive if the support at 98 holds, and the next target for the dollar index comes in at the psychological level of 100. Below 98, 97.50 will act as a good support.

The recent speech by the Fed’s Rosengren reaffirms the fact that the Fed may not be in a hurry to cut rates further.

In fact, his statement that there are no significant problems in the economy will only boost the demand for the dollar. Now, all eyes will be on Fed Chairman Powell when he delivers his speech at the Jackson Hole symposium this Friday.

The rupee is expected to decline further towards the support of 72, a break of which could drag the currency towards 72.20 and 72.70 in the coming days. Alternatively, if the rupee moves higher, 71.50 will act as a decent resistance, followed by 71, which is a decisive level for the trend to turn in favour of the rupee.