The rupee has fallen to `48 against the dollar. Should we, as ordinary investors care about it? Why not just let NRIs worry about the exchange rate? For domestic investors, does the fluctuation of the rupee make any difference? The
exchange rate phenomenon seems too esoteric for most common investors. But you do need to keep an eye on such rates because they can have some impact. Read on.
Currency fluctuations
There are two ways in which countries manage currency rates. Firstly, countries peg their currency to the dollar. In such cases, the exchange rate does not change. Governments take action to manage any fluctuation that may happen. In the other instance, countries leave it to the market to decide the exchange rate. Governments do not interfere.
India doesn’t have a fixed value of the rupee against dollar but it also doesn’t keep its currency completely floating against dollar. We have a system, where the central bank allows the rupee to fluctuate within a specified range and interjects whenever it goes out of that rang.
Usually, the appreciation of the rupee is seen as a sign of the economy gaining strength while a depreciation is interpreted as a sign of the economy weakening.
How it impacts investors?
Let’s look at how rupee fluctuations impact the decisions of investors.
When the rupee appreciates, it can be bad for companies whose revenue, at least most of it, is derived from exports. Appreciation of the rupee makes goods and services more expensive for export. When the products become expensive, importing nations either reduce imports or look for other suppliers that can produce the same product at cheaper prices. Any appreciation of the rupee is often followed by exporters clamouring for a devaluation of the currency.
However, the appreciation of the rupee is good for companies that depend on imports from other countries. For example, companies in oil and engineering sectors would be happy when the rupee goes up. It brings down their cost automatically. Investors should, therefore, look for such companies to invest in.
Conversely, companies in the software and textile sectors, who make most of their revenue through exports get badly hit when the rupee appreciates. We saw what happened in 2008 when America went into recession; the dollar lost value and there were lay-offs, increased hours, flat revenues, and shrinkage in profit.
If the domestic currency begins to lose against the dollar, as is happening now, it can hit countries like India, whose imports are more than the exports. This increases the deficit. Rupee depreciation is not at all good for the economy, except for the export-oriented companies. When the economy suffers, inflation goes up and this impacts the returns of investors negatively. Moreover, high inflation reduces economic activity and consumption. However, as an investor, you can certainly look at textile and IT companies. However, this does not always happen, since in the case of software companies, they have now matured and need to move up the value chain; mere currency fluctuations are not going to help them.
Since the global crisis is yet to stabilise, there will be extreme fluctuation of currencies. The multiple problems of the Eurozone, America’s growth, and many other factors will impact the currency rate. The Indian rupee has fallen from `44 a dollar to `48 a dollar within a month. This happened because euro went down against the dollar as a result of Greek crisis. The dollar has become a safe haven for investors worldwide which has increased demand.
Knowing these basics can help you make informed decisions while investing in these turbulent times.
(The writer is the CEO of bankbazaar.com)