Photographer: Adeel Halim/Bloomberg

Asia's Top FX Trade Has a Hawkish Central Bank Behind It

  • Aviva says it has added rupee positions amid hawkish RBI
  • Rupee is one of the top picks for investors: TD Securities

Reserve Bank of India’s apparent tolerance of rupee gains is burnishing the appeal of Asia’s best carry-trade currency.

RBI Governor Urjit Patel already surprised analysts by raising a key interest rate last month, and now there’s little indication that officials are intervening heavily to slow currency gains –- unlike some Asian counterparts. That’s all spurred Aviva Investors to add to its rupee positions, and Bank of America Merrill Lynch is recommending buying the currency.

The rupee is delivering the best carry-trade returns in emerging markets this year, toppling the Indonesian rupiah, which was 2016’s king in Asia. While a stronger currency is casting a cloud over Indian exporters’ earnings -- an impact that prompted the chief economic adviser to the nation’s finance ministry to express concerns -- official reserves have risen by less than many counterparts, and market participants have cited a lack of aggressive intervention.

“The Reserve Bank of India is becoming more hawkish,” said Stuart Ritson, the Singapore-based head of Asian rates and currencies at Aviva Investors. Excess domestic liquidity has constrained the central bank’s ability to intervene, he said. “The bulk of our returns we expect to get from the carry, rather than the capital," he said, emphasizing the higher rates investors can earn in rupees than low-rate currencies such as the yen.

At 6.66 percent, India’s 10-year benchmark sovereign bond yield is the highest among major economies in Asia, following Indonesia, which has shown greater desire for intervention to slow currency appreciation.

Market Intervention

Bank Indonesia said in its April 20 statement it will continue to stabilize the rupiah in line with its fundamental value, while maintaining market mechanisms. Bank of Thailand has boosted foreign-exchange reserves since the end of last year in the face of surging inflows. Governor Veerathai Santiprabhob said last month the intervention in the foreign-exchange market wasn’t aimed at giving exports an unfair advantage.

India’s currency has climbed 6 percent against the dollar this year as Asia’s third-largest economy lured more than $15 billion into its bonds and equity markets. That’s added to liquidity created by the government’s surprise demonetization decision in November, which spurred an influx of funds into the banking system.

“RBI has been letting the rupee rally because it is using the currency as a tool to tighten financial conditions," said Rohit Garg, a fixed income and currency strategist at Bank of America Merrill Lynch in Singapore.

The rupee’s Sharpe ratio, which measures returns adjusted for prices fluctuations, is 5.73 for the year so far, ranking at the top among 23 emerging markets tracked by Bloomberg.

Read: What rate hawks are picking on from change in RBI stance

India’s bonds have a fresh bonus in slowing inflation, with a government report late on Friday showing consumer prices rose less than economists had estimated, news that spurred a rally on Monday. But with one of the world’s fastest economic growth rates, yields are likely to stay higher than elsewhere -- maintaining the attraction of carry trades.

“In Asia, the INR remains one of the top picks that we have been recommending to clients for well over three years,” said Cristian Maggio, the head of emerging markets strategy at TD Securities in London, using the trading term for the rupee. “Appreciation potential now is more limited, but we think that the carry story will continue to look attractive.”

— With assistance by Anirban Nag, and Yudith Ho

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