Exchange rate factors in high current account deficit: Dhawal Dalal
Besides other macros at the domestic level, the rupee movement has been a key factor in determining the market sentiment. Dhawal Dalal, executive vice-president and head (fixed income), DSP BlackRock Investment Managers, tells Puneet Wadhwa that the rupee may remain volatile in the current environment, and it would a prudent strategy to invest in the fixed income products. Edited excerpts:
How do you read the announcements by the Reserve Bank of India (RBI) in the last policy review amid tapered-down growth forecasts, inflation, weakening rupee and a widening fiscal deficit? Do you think we could see lower growth going ahead with central banks, including ours, slashing key rates?
In the last policy meeting, the central bank kept the policy rate and cash reserve ratio unchanged, despite expectations of a 25 basis point rate cut on account of tapering growth. Most market participants were under the impression that policy decisions would be based on spurring growth, as opposed to controlling inflation.
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However, this decision indicates the upside risks of elevated inflation exceeds that of slowing growth. Despite the decrease in oil prices, the sharp depreciation of the rupee against the dollar, coupled with the government’s allowance of subsidies to diesel and kerosene prices, pose upside risks to inflation.
In our view, RBI will continue to watch economic indicators to determine the trajectory of inflation and steps taken by the government to control fiscal deficit before deciding on rate cuts. Currently, the CPI (inflation), a measure of consumer prices, is approximately (at) 10 per cent.
If we have a poor monsoon this year, it could result in higher food prices, translating into higher inflation. Hence, most market participants don’t expect RBI to cut rates in July at this point. As far as other central banks are concerned, monetary policies continue to observe deteriorating growth in their respective economies and are repositioning themselves for a loose monetary policy.
The announcements after policy review also fell short of expectations. What more would you have liked?
In its forward guidance, RBI did not indicate future rate cuts. However, to manage the tight liquidity conditions, the central bank is expected to conduct a series of open market operations (OMOs).
We believe between now and the next policy meeting, ~60,000 crore worth of bonds will enter the market, which should increase bond yields. In the absence of OMOs, bond yields are expected to have an upward bias. Hence, announcements of OMOs are key to maintaining a positive sentiment in the market. We expect the new 10-year bond to trade between 8.15 - 8.25 per cent in the near term.
What is your outlook for bond yields of key countries in the Euro zone and the rupee? How do you see liquidity panning out in the near-to-medium term?
The bond yields of key countries in the Euro zone should remain range-bound and hinge on support of austerity measures and access to bailout funds. Although the rupee has depreciated year to date and continues to remain under pressure, we believe it will trade range-bound in the near-term and then stabilise.
At the rupee’s current level, the exchange rate appears to have priced in the high current account deficit, which has peaked and may gradually decline. The rupee is vulnerable to both inflows and outflows in the near term and may exhibit a heightened level of volatility in the current environment.
What are you advising your clients now? Is it a good time to invest in debt/fixed income?
Our advice to investors is to invest in fixed income products commensurate with their risk appetite. We believe the term structure of interest rates, both from the short and long-term perspective, make the fixed income asset class an attractive investment opportunity. Investors should analyse the credit quality of a portfolio to mitigate credit risk.