Rupee Bulls See Volatility Damped as Oil Enters Goldilocks Phase

  • Currency's implied volatility fell to four-month low last week
  • Oil is `perfect Goldilocks scenario for the rupee,' ING says

Global funds returning to buy Indian bonds can take comfort in signs the rupee will stabilize in coming months, as oil settles in a range that benefits both government finances and the appetite for emerging markets.

A gauge of expected currency swings in the options market has slumped 162 basis points from a February high and reached the lowest level in almost four months last week, data compiled by Bloomberg show. Brent crude prices have averaged $37 a barrel so far this year, compared with $53.6 for all of 2015, despite rebounding about 70 percent from a 12-year low reached in January.

“The current oil dynamics are the perfect Goldilocks scenario for the rupee,”
said Viraj Patel, a London-based strategist at ING Groep NV. "They’re low enough to allow India’s current account to continue improving, but modestly rebounding to support global risk sentiment, which is a key short-term driver for the risk-sensitive rupee. Record reserves, lower inflation and the trade deficit typify the strong fundamental backdrop.”

Investor confidence is rising as India, which recently overtook a slowing China as the world’s fastest-growing major economy, has seen its central bank strengthen defenses against global shocks by propelling foreign-exchange reserves to an all-time high. Cheaper oil helped drive the net importer’s trade deficit in March to the lowest in five years and consumer prices rose at the slowest pace in six months.

The rupee’s three-month implied volatility, a gauge of expected swings used to price options, fell to 6.68 percent on April 21, the lowest since Jan. 7, data compiled by Bloomberg show. The gauge was at 6.83 percent in Mumbai on Wednesday, compared with this year’s high of 8.45 percent in February.

‘Perfectly Sensible’

The current-account deficit for the nation that relies on imports for three quarters of its oil narrowed to $7.1 billion in the three months through December, from $8.7 billion in the previous quarter. The trade shortfall shrank to $5.07 billion in March. India’s government expects the fiscal deficit for the year ended March to be within the 3.9 percent target, the Ministry of Finance said in a statement this month.

“The falling oil price gave room to improve the budget deficit in India,” said Mike Kushma, Chief Investment Officer, Global Fixed Income, at Morgan Stanley Investment Management, which oversees about $406 billion in assets. “We don’t think it will go back to $60 a barrel, but equilibrium of the $30 to $45 range is perfectly sensible.”

India’s foreign-exchange reserves have risen for three straight weeks and climbed to an unprecedented $360.3 billion as of April 15, central bank data show. Foreign funds have increased holdings of rupee-denominated corporate and government debt by 27.1 billion rupees since February’s withdrawal of 87.6 billion rupees amid the global emerging-market selloff.

The rupee has climbed 2.9 percent since completing a two-month loss at the end of February to 66.46 a dollar on Wednesday, helping pare its loss this year to 0.5 percent. Even so, investing in rupees will earn 2.5 percent, including interest, from now until Dec. 31, according to strategists’ forecasts compiled by Bloomberg, the most in emerging Asia.

“The rupee is likely to be a more stable currency in the Asian space, partly because of the reserves and improved current account, and partly because India is expected to record the highest growth in Asia and inflation is under control,” said Roy Teo, a senior currency strategist in Singapore at ABN Amro Bank NV. “Lower volatility would boost investment sentiment.”

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