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Why weakness in dollar is good news for emerging markets like India

The gush of funds may result in the rupee appreciating further against the US dollar in the immediate future. However, the RBI may not allow massive appreciation.

, ET Bureau|
Updated: May 12, 2014, 09.33 AM IST
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Though a strong government will result in moderate appreciation in the rupee, the central bank may use it to make long-term forex reserves
Though a strong government will result in moderate appreciation in the rupee, the central bank may use it to make long-term forex reserves
Both domestic and external factors have helped the Indian rupee consolidate its position from Rs. 68.85 to a dollar on 28 August 2013 to the present level of Rs. 60 a dollar. The Indian government's initiatives to bring the current account deficit under control and the RBI's policy stance, while maintaining the export competitiveness, helped the rupee appreciate. Also, is the expectation of a business-friendly government headed by Narendra Modi behind this sudden surge in rupee? Only a part can be explained by this facator.

The overall weakness in the US economy, pulling down the country's interest rates and forcing the dollar to weaken further-which was reflected in the dollar index hitting a six-month low-also played a significant role in the rupee's gains. According to Anindya Banerjee, currency analyst, Kotak Securities, this might also impact the US Federal Reserve's stance. "Due to the soft economic data, the expected interest rate hike by the US Federal Reserve may not happen in the middle of 2015, as was expected earlier," he says.

How will it impact the Indian market? Dollar weakness and a fall in interest rates in the US are good news for emerging markets such as India, as the US investors start chasing growth once again. If a stable and business-friendly government comes to power at the Centre, the money flow into India will get accelerated. This expected gush of funds may also result in the rupee appreciating further against the US dollar in the immediate future. However, the RBI may not allow massive appreciation.


Why weakness in dollar is good news for emerging markets like India

"Though a strong government will result in moderate appreciation in the rupee, the central bank may use it to make long-term forex reserves," says J Venkateshan, equity fund manager, Sundaram Mutual Fund. "The Indian rupee may see only slow appreciation and the US dollar may go down to Rs 56-57 range over the next 12 months. Going beyond this level will be difficult," says Banerjee.

Slow growth in developed markets and a strengthening rupee, however, are not good news for the IT services sector and that explains its recent weakness. The impact will be similar for most other export-oriented sectors, including textiles and leather. Competition from China may also increase because of the slowdown the country faces. However, the pharmaceutical sector may not be affected. "The Indian pharmaceutical companies are benefiting from the US generic market and this is not going to be impacted by the quarterly economic swings there," says Venkateshan. In fact, the conversion from high-cost patented drugs to low-cost generic medicines may speed up in a difficult economic condition and that will benefit the pharma companies. With the problems generated by the drugs price control order (DPCO) 2013 already behind them, they are also expected to do well in the domestic market.


 
The domestic economy has also started showing signs of a turnaround with improvement in the current account and fiscal deficit numbers. Things can improve if the new government takes steps to kickstart the investment cycle. The improvement in sentiments should also convert to better numbers for India Inc. "The consolidated earnings growth in 2014-15 should be better than that of 2013-14," says Venkateshan.

How will the fortunes of the different sectors shape up with the infusion of such positive sentiments in the country? Experts say it would be better to keep away from defensive sector and stay focused on cyclical sectors, such as infrastructure, construction, power, financials and industrials. They should do well in the coming quarters due to the expected economic recovery.

Since the resolution of nonperforming assets (NPAs) may take a few more quarters, investors can, however, avoid PSU banks and bet on the private sector, barring HDFC Bank. "We should be cautious about HDFC Bank. It is reasonably priced, but may underperform because FIIs cannot invest in it now," says Sudip Bandyopadhyay, president, Destimoney Securities. Similarly, avoid metals for the time being because the global metal prices will remain under pressure due to the ongoing China slowdown. High-risk investors can also bet on beaten down sectors. "It is time to bet on the oil & gas sector. All of them are fundamentally good companies and are quoting at low valuations. And, once the new government resolves the vexed gas and oil pricing issues, it would be attractive," says Bandyopadhyay.

Finally, a word of caution. Since we are entering a week a major event (the election results), it is better to stagger our investments to make maximum out of this high volatility. "You can invest 30% of the corpus now, 30% after the exit poll results are out and the remaining 40% after the final outcome," says Bandyopadhyay.

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