A currency exchange in the UAE. On Friday the Indian rupee gained 20 paise against the dirham to close at 20.01. Image Credit: Ahmed Ramzan/Gulf News archive

Dubai: The Indian rupee rallied 53 paise to close at 73.69 against the US dollar on Friday.

The Indian currency’s gains against the dollar is immediately reflected in its exchange rate against the dirham because of the UAE currency’s peg against the dollar. On Friday the rupee gained 20 paise against the dirham to close at 20.01.

Why gains?

The rupee’s recent gains are largely linked to the rising forex reserves. As the Reserve Bank of India (central bank) continues to increase forex reserves signalling its strong resolve to build a bigger reserve cushion to aid its expansionary and unorthodox monetary policy. The reserves are forecast to top the $650 billion by year-end. The reserves had risen to a lifetime high of $621.464 billion in early August 2021.

With the Sensex scaling new highs over the past few weeks, investors have been predictably upbeat, with foreign investors joining the bandwagon. The exuberance in the market has seen the India’s benchmark stock index Sensex crossing the 56,000-mark for the first time on Friday, driven by strong buying in infrastructure, finance and pharma stocks despite lacklustre global cues.

Shaky fundamentals

Rupee’s resilience has been largely supported by the recent IPO-related inflows. Uncertainty over delta variant of COVID and a potential third wave in October could adversely impact foreign portfolio investments. Despite the recent surge in stocks, foreign investors have been cautious. Going ahead, investor risk appetite could get dented with an increase in the count of COVID cases and they could move towards safety.

The rupee’s recent gains were supported by global oil price weakness. International crude prices sank about $11 a barrel - roughly 15 per cent - in the first three weeks of August as China reimposed lockdowns. Oil is seen reversing this trend. International oil benchmark Brent crude rose to cross $72 per barrel on Friday. India imports more than 70 per cent of its oil requirement and thus is the most important source of forex outflow.

The exchange rates journey of the dollar and the rupee in recent months have been highly volatile form from the low of 75.20 in April to 72.40 in May and again jump towards 74.90 post June Fed meeting. It has remained range bound between 74 and 74.90 in most of July and the first half of August. The sudden gains in rupee has come as a surprise to traders and analysts

Breakout on horizon

Experts say history always suggests that the longer the rupee - dollar pair trades range-bound, the sharper and stronger will be the breakout and the market could be waiting for a trigger.

At the Jackson Hole conclave, the Federal Reserve Chairman Jerome Powell gave the strongest yet hint that the Fed would being tapering its $120 billion a month bond buying programme. Despite the dovish tones of Powell, the rising inflation and the improving US job markets could see a faster tapering.

The RBI governor in his recent monetary policy announced measures to curb inflationary pressures through absorption of excess liquidity in the banking system, despite such moves the continuing elevated levels of inflation remains a threat to rupee’s gains against the dollar in the weeks and months ahead.