The Indian rupee traded broadly flat over the week, yet outperformed regional peers as debt portfolio inflows supported the currency. Domestic bonds extended their rally after Reserve Bank of India Governor Malhotra pushed back against speculation of tighter policy, prompting a shift in rates pricing.
Indian government bond gains took the 10-year yield back to 6.75%, while the 1-year OIS fell to 5.75% from 6.38% a month earlier. Softer activity data also shaped the tone, with the composite PMI easing to 57.4 in June from 59.3 in May, pointing to slower momentum across manufacturing and services. In global markets, broad US dollar strength dominated, even as gold slipped below $4,000/oz and Brent moved to pre-war levels.
Foreign Portfolio Inflows And RBI Policy Offer Opportunities
The Reserve Bank of India’s dovish stance creates a clear opportunity for us, even with the strong US dollar. We’ve seen foreign portfolio investors inject over $6 billion into Indian debt this quarter, which explains why the rupee is holding up better than its peers. This inflow is a direct response to the attractive yields and the central bank’s reluctance to tighten policy.
We should consider receiving the fixed rate in one-year Overnight Index Swaps (OIS), capitalizing on the market’s dovish repricing. With May’s CPI inflation stable at 4.5%, well within the RBI’s target, Governor Malhotra has room to maintain this stance. This suggests the floating rate will remain anchored, making this swap profitable for the coming weeks.
Trading Strategies In This Environment
Given the conflicting pressures of foreign inflows and broad dollar strength, we expect the USD/INR pair to trade within a defined range. This reminds us of the 2017 period, where strong domestic fundamentals buffered the rupee against a strengthening Fed. Therefore, selling short-dated strangles on USD/INR could be an effective strategy to collect premium from the anticipated low volatility.
The softening composite PMI, now at 57.4, signals a moderation in economic momentum that supports the RBI’s view. This slowdown reduces the chance of any hawkish surprises and should keep bond yields, like the 10-year at 6.75%, suppressed. We can use bond futures to trade this continued rally in Indian government bonds.
