Sharp gains: Rupee strengthens swiftly in sentiment-driven rally

May hit 100 mark against dollar on aid and investment expectations.

KARACHI:

Word on McLeod Road has it that the dollar is going to sell at Rs100 by the end of the current fiscal year in June.

If recent movement in the foreign exchange market is anything to go by, the idea of the rupee-dollar parity reaching Rs98 seems quite plausible.

After all, strengthening from Rs108.31 a dollar on November 28, the rupee-dollar parity now stands at Rs102.37 in the interbank market, which reflects a substantial 5.4% gain over just 14 weeks.

Moreover, the rupee has gained 2.78% against the greenback during the last one month alone.

So what’s causing the gains although fundamentals of the economy – such as the current account deficit, low foreign exchange reserves, etc – remain largely the same?

Speaking to The Express Tribune, Standard Chartered Bank Senior Economist Sayem Ali said the rally is driven more by sentiments, as macros remain largely weak.

“Sentiments have shifted due to positive IMF staff reviews, expectations of significant aid and investment inflows in 2014, and interventions by the State Bank of Pakistan (SBP) through the forward/swap market,” Ali said.

Foreign currency reserves held by the SBP stood at $3.92 billion on February 28, up 1.29% from the preceding week, according to latest data released by the central bank. These reserves give an import cover for only 1.1 months.

“Importantly, oil import payments, which account for roughly 40% of total imports, have now been moved out of the interbank and are instead being paid from FE25 loans,” Ali said while referring to the trade loan facility for exporters and importers, which is essentially a deferred payment.

No wonder, these measures have helped reduce the demand for the dollar in the interbank, thus bringing down the value of the greenback against the rupee.

An inflow of investment in fiscal year 2013-14 also helped shift market sentiments in favour of the rupee. According to the SBP, Pakistan received foreign direct investment (FDI) of $523 million in the first seven months of 2013-14. FDI amounted to $106.9 million in January alone.

Similarly, foreign portfolio investment (FPI) in January amounted to $31.5 million, which is 27% of the total FPI that the country has received in the first seven months of the current fiscal year.

In addition, the expected receipt of $550 million from the International Monetary Fund (IMF), along with the launch of Eurobonds amounting to $500 million likely next month, has also led to positivity in the foreign exchange market.

Ali said most exporters now prefer to book forwards at the prevailing rate in anticipation of a lower currency exchange rate three months down the line. Similarly, importers are staying away from booking forwards in anticipation of a further appreciation in the value of the rupee against the dollar in the next three months, he added.

As per the law, exporters must surrender dollars within 130 days. Typically, they hold on to foreign currency for that period hoping to sell at a higher exchange rate.

According to Exchange Companies Association of Pakistan Chairman Malik Bostan, the dollar is expected to be at Rs100 in the next few months. While appreciation of the rupee will contain inflation, a stronger currency will inevitably make exports less competitive.

“Hence, a widening trade gap will put more pressure on foreign exchange reserves, forcing the SBP to readjust the rupee to equilibrium levels,” Ali noted.

Published in The Express Tribune, March 10^th, 2014.

Like Business on Facebook, follow @TribuneBiz on Twitter to stay informed and join in the conversation.