Answering the million dollar question for exporters: To hedge or not to hedge?

USDINR continued to remain volatile; touched a high of 75.67 before finally closing the curtailed week at 75.26. Big relief for the rupee came in the form of softness in the Dollar Index and US Treasury yields. The DXY and US Treasury yields surprisingly retreated despite high US inflation numbers. US consumer inflation grew by 0.4% (MoM) in September, quicker than the 0.3% expected. Core inflation also increased by 0.2%, in line with estimates. On an annual basis, the headline inflation is running at 5.3% and core inflation at 4%, well above the Fed’s medium-term target range. In another data release, the recent FOMC meeting minutes explained that the Fed is confident of starting the tapering by November or latest by December.

Meanwhile, crude oil prices are showing no signs of abating from current levels which may prevent any major dip in USDINR despite a mild weakness in US Dollar. Brent Crude oil prices crept higher above USD 85.00 a barrel as Saudi Arabia downplayed calls for additional OPEC+ supply.

In India, surprisingly the retail inflation fell to 4.35% in September against 7.34% during the same month in 2020. Consumer inflation was down largely due to a significant fall in food prices in the country. Food prices were up by only 0.68% from 3.11% in the preceding month. In another data release, industrial production in India increased by 11.9% in August from 11.5% in July. This is against the contraction of 7.1% in August 2020.


One question that has kept everyone guessing is – Is this the right time to hedge? The answer becomes even more difficult given the fact that the rupee has depreciated by almost INR 2.50 per dollar (more than 3%) in just over two months, but global sentiments suggest that there is more in store and there may be a further fall. In such a scenario, some exporters must be waiting for better levels despite the recent favourable move in the pair. By doing so, they put themselves at risk on two fronts – reversal in spot and premium decay with the passage of time. There is even a school of thought (of exporters) that feels that as the rupee is a depreciating currency, it is always better to keep the exposures uncovered and realize the receivables at spot. The below chart which illustrates a comparison between the average spot at maturity against a 3 month, 6 month, and 12 month hedge book over the last 7 years suggests otherwise. While no one cannot deny the fact that the Indian rupee is certainly a depreciating currency, but at the same time, it is a very well established fact that goes through peaks and troughs and even through phases of ranged movement depending on the sentiments prevailing at any given point of time. The point of contention is, whether it depreciates enough on a gradual basis to outweigh the forward premiums. The answer is a ‘NO’ most of the time. The reason being that the average depreciation in rupee is rarely more than the premium benefit that can be derived from taking a forward cover.

For the period under consideration which is a quarter less than 8 years (2021 data is till September end), a ‘spot at maturity realisation’ has done well in only 2 years as compared to a strategy that involves booking forwards. Also, it can be clearly seen that the longer the hedge tenure the better is the performance.

To put it simply, performance wise –

12m hedge book> 6m hedge book> 3 m hedge book> Zero hedge

A strategy that involves consistent hedging with discipline and defined risk limit for the maximum tenure as per your business visibility allows will more often than not keep you better places as against a lesser hedge tenure strategy or a ‘no hedge’ strategy. The below table shows the average gains vs. a no hedging strategy (in which receivables are converted at spot) for a 3m,6m and 12m strategy respectively considering a monthly exposure of USD 1 mn.

Average Gains vs No hedge rate for an exposure of USD 1Million per month
Forward Hedge Tenure	3M	6M	12M
Average Spot at maturity rate (67.99)	68.39	68.98	69.64
Gains per annum (In INR Cr.)	0.49	1.20	1.98
Gains (%)	0.60%	1.50%	2.40%

Of course, hedging 100% on Day 1 based on projections can lead to operational issues and related time and cost burden due to cancellation, rollovers, etc, so hedging on estimated exposures should be done on a discounted book (only 75 %to 85% to be monitored and managed), which can be taken to 100% once the receivables are confirmed.

For the coming week, the rupee would closely track the Dollar Index and crude oil prices which are trading at crucial levels of 94.00 and 85.00, respectively. We expect the USDINR to trade mildly lower during the start of the week, tracking weak US Dollar and strong global equities after the long trading holiday and oscillate between 74.80 to 75.40 levels for the rest of the week. The medium-term trend is still in favour of the USDINR pair for a test of 76, or even 76.50. Having said that – as the analytics suggest, anytime is good to hedge for exporters, if done in a disciplined manner for the maximum possible tenure as per one’s visibility of future receivables.

(Ritesh Bhansali and Imran Kazi are both VPs at Mecklai Financial. Views are their own)