Rupee slumps on equity sell-off, bond yields rise on global cues

Primary dealers had to again rescue 5-yr notes even as RBI went for uniform price-based auction

The Indian rupee fell sharply on Friday following cues from the equity markets, even as bond yields rose shadowing US yields.

The rupee fell 1.422 per cent to close at 73.47 a dollar, from its previous close of 72.42 a dollar — its biggest single-day fall in nearly 19 months.

The Sensex tumbled more than 1,900 points, or 3.80 per cent, to close at 49,100 points.

The rupee was the worst performer in Asia, followed by South Korean won, which fell 1.39 per cent. Almost all major currencies fell against the dollar on Friday. The dollar index, which measure’s the greenback’s strength against major currencies, strengthened 0.50 per cent overnight to 90.59. The fall in the rupee, which is expected to stay at this level for some more time, however, works in favour of the RBI, which for some time has tried to keep the rupee weak by accumulating reserves.

Since March 2020, the RBI has accumulated more than $100 billion of reserves, which prevented the rupee from strengthening. A weak rupee helps in export. The RBI did it even at the risk of being termed a currency manipulator by the US Treasury. The RBI governor on Thursday said its reserves accumulation is to prevent undue volatility as witnessed during the Taper Tantrum episode of 2013.

“The RBI’s responsibility is to ensure that there is stability of the exchange rate, and our focus is always to prevent undue volatility, so that the exporters, or even the importers and other businesses, can make informed decisions,” said the RBI governor.

The 10-year bond yields rose to highest in at least six months to close at 6.23 per cent against its previous close of 6.16 per cent. The US 5-year yield, at nearly 1.5 per cent, is at its highest level since March 2020. The 2-year bond yields also spiked 6 basis points in a couple of sessions. According to IFA Global, “rising short-term US yields are a definite sign of caution for short dollar positions”.

Another reason why the domestic bond yields spiked on Friday is because the RBI devolved its five-year bonds, even as it employed the uniform price-based auction.

The RBI generally employs the multiple price auction method, but for the 5-year bond, it used the uniform price auction as an experiment.

However, of the Rs 11,000 crore of bonds on offer, primary dealers had to buy Rs 2,131.61 crore of notes.

Another bond maturing in 2023 had to be rescued by primary dealers too. Of the Rs 4,000 crore on offer, primary dealers bought nearly Rs 2,655 crore of debt.  Importantly, the central bank did not sell half of its Rs 5,000 crore offering on the bond maturing in 2050.  The devolvements indicate that the central bank is not ready to accept high yields, but the market participants say unless the RBI announces open market operations to purchase bonds, the yields will continue to rise.

“The RBI’s efforts, including the governor’s appeal for an orderly evolution of the yield curve, should be interpreted as the central bank intervening to address the pace of change rather than control the direction of yields,” said Suyash Choudhary, head of fixed income at IDFC Mutual Fund.

According to Acuite Ratings & Research, the rupee should appreciate once again in FY22, and notwithstanding the sharp fall, the currency has appreciated on a net basis since October. “The pace (of appreciation) would get interspersed by central bank’s actions in the foreign exchange market resulting in rupee’s underperformance vis-a-vis peers. We expect the rupee at 72 by September, 2021 and 71 by March 2022,” the rating agency said.

“Risk to this view stems from an appreciation in the dollar, which could potentially impart a depreciation bias to INR. On the other hand, a faster-than-anticipated growth recovery, stability in commodity prices, and the government’s execution of reforms agenda can potentially favour a stronger rupee.”