India Inc lines up to hedge forex exposures before it is too late

Unhedged positions may have gone as high as 80%, which is now changing

The recent movement in the rupee is being taken in all seriousness by corporates in India, and they are queuing up to hedge their foreign exchange (forex) exposures, say currency consultants.

But there is still some way to go before Corporate India, particularly importers, can say it is fortified against sudden shocks.

“Most companies do not hedge in a disciplined manner. Over time, the market will kill you,” says Jamal Mecklai, chief executive officer of Mecklai Financial Services.

Importers have started taking note of the gathering clouds and currency dealers say there is a new-found awareness of hedging.

“I would say most companies are aware of hedging now. They are eager to keep their exposures covered somewhat,” says Mecklai.

While accurate data on hedging by the corporate sector is not available, the stable rupee had resulted in importers keeping as much as 80 per cent of their forex exposure unhedged since 2013, from the earlier 65 per cent, say forex experts. Exporters are typically more hedged during this period, but consultants tell them to cut their hedges as the rupee shows a depreciation bias.

Companies are hedging for the short term. They await a clear sign that longer term protection would be absolutely necessary.

The rupee closed at 66.64 to the dollar on Wednesday, considerably lower than 63.68 a dollar at the start of the calendar year.

“The market expects the rupee to not go beyond 67 a dollar, but our view is 70 for the first quarter next year. We have started advising our clients to hedge,” said Abhishek Goenka, managing director of IFA Global.

Most of the hedging though is for one month. The strategy is to see how much the Reserve Bank of India (RBI) supports local currency. Companies want to watch a few more months before they take the long-hedge calls. But how much the central bank can intervene at a time when the global economy recovers is a question open to debate.

Some companies have written rules that every exposure should be covered, but they are large companies. For small and medium enterprises, hedging adds up to 4-6 per cent of the loan cost, which they tend to avoid.

While the RBI has accumulated $425 billion dollar of reserves, any meaningful intervention to protect the rupee could wipe out most of what it had accumulated last year – about $55 billion.

Economists expect the central bank to intervene $8-10 billion in the coming months, but only to iron out volatility. Year-to-date, the rupee is one of the worst performing currencies in Asia, having fallen more than 4.5 per cent. The fall is led by the outflow of foreign money. In April alone, foreign portfolio investors (FPIs) took out Rs 121.17 billion from debt and Rs 52.94 billion from equities.

However, according to Goenka, FPIs are typically in a selling mood in May. In eight years out of 10 in the past, FPIs have sold in the first quarter. The pressure would continue in May and to some extent in June before the local currency starts to recover.

“Between 2008 and 2013, the currency had moved wildly and the hedging discipline had improved. But after that the rupee had become stable and hedging was an additional cost. Now that philosophy has taken a hit, looking at the global situation,” said Goenka.

As a result of stability in the rupee, the hedge ratio may have fallen as low as 20 per cent of the total forex exposure, from 30-35 per cent earlier. There is only a minor improvement in the hedging discipline recently, but the corporate sector has at least understood that this time it could be different.

 “There are some companies that hedge 100 per cent, there are some that do not hedge at all seeing the cost. It is always open to interpretation. A good hedge ratio could be 50 per cent, which is hardly the case for the market,” said Mecklai. He added that after his advice, his importer clients have hedged 53 per cent of their exposures, while exporters have hedged 55 per cent.

Generally in a current account deficit country, importers hedge. But the rupee’s stability in the past brought out exporters to hedge.

“Exporters faced extreme pain in the recent past. With the rupee now sliding, companies in textiles, auto components, pharmaceuticals, and information technology are breathing a sigh of relief,” said Samir Lodha, managing director of QuantArt Markets Solutions, a treasury solution firm.

“Importers are not panicking yet, but the hedge ratio has moved higher than earlier. But it is much lower than what it should be,” said Lodha.

This time the rupee’s slide is here to stay, and the RBI is unlikely to stand in the way if the US dollar continues to rise.

So far, the central bank has intervened sporadically in the spot market to support the rupee, only to let it depreciate again in line with other emerging market peers. The scope for selling dollars in the spot market is also limited, as the central bank risks draining out liquidity already under stress.  

Instead, much of the activity is taking place in the forwards market, where the central bank had built up a $32 billion position, but has now reduced the outstanding to $20 billion. Part of this is to support buyers’ credit after the central bank banned letters of undertaking. But some of the wealth spent could be to bolster the rupee. The RBI sells dollars in the forwards market to soften the exchange rate for a future date. 

As crude oil prices heat up, the US dollar and bond yields rise, foreign investors find value in putting their money in overseas assets. Wednesday’s Federal Reserve policy meet would be keenly watched for the language. If the Fed says the US economy was well on its way to a recovery, the dollar will further strengthen, putting pressure on the rupee.

Hedging Bets

• Companies went easy on hedging due to stable rupee
• Rupee has sharply corrected this calendar year
• Many companies are now enquiring about hedging
• Importers are taking cover, whereas exporters are keeping positions open
• Economists expect the RBI to intervene $8-10 billion in a few months
• But dollar sales by the RBI may not suffice to check rupee fall