Reuters Poll: Rupee to hold steady in 2012, portfolio flows key

The rupee is expected to hold steady through much of this year, encumbered by an economy that will struggle to attract the portfolio flows it needs to fund to its balance of payments, a Reuters poll showed.

The currency will not revisit the record lows it hit in mid-December, the poll showed.

But the rapid slowdown in the economy and persistently high inflation make India a relatively less attractive investment destination, even in a year when developed economies are expected to pump massive stimulus into financial markets.

The Reuters poll of 28 strategists and analysts, taken this week, saw the rupee trading at 50.0 against the dollar in a month, 50.5 in three months and strengthening to 48.8 a year from now, which is close to Friday's spot market levels of 49.03. That compared with 52.0, 51.4 and 49.0 in the December poll.

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Expectations are already running high for another round of bond purchases from the U.S. Federal Reserve and for the European Central Bank to lend more to its troubled banking system. Analysts expect a lot of that cash will flow towards emerging markets and commodities.

Yet, further strength in the rupee may depend on investor confidence in prospects for a global recovery as well as a snapback in India's domestic economy.

"If we see global risk appetite improve from here then dollar/rupee could fall further," said Nick Verdi, FX strategist at Barclays Capital in Singapore.

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"But we think weak fundamentals will limit rupee appreciation from here," he said, making a specific reference to India's weak fiscal position .

After losing 16 percent of its value last year, the rupee recouped about half of those losses on Reserve Bank of India (RBI) intervention and a general rush back into riskier assets among global investors.

Foreign investors put about $2 billion into Indian markets in January alone, after being net sellers in 2011. The rupee posted its largest monthly gain in over 17 years in January, rising 7.5 percent.

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Yet a current account deficit as wide as 3 percent of economic output plus weak foreign direct investment and a pipeline of maturing foreign borrowings make it imperative that India keeps attracting foreign money into its stock and bond markets.

Economists in a separate Reuters poll cut their forecasts for India's economy and now expect it to grow 7.6 percent in the fiscal year to March, its slowest pace in two years. The economy grew 6.9 percent in the quarter ended September 2011.

After 13 rate rises to stamp out inflation in between March 2010 and October 2011, the central bank signalled last month it was shifting its focus to growth by cutting the cash reserve requirements for banks by 50 basis points.

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"The fact that inflation is more sticky in India than in most other economies in the rest of the region is limiting the extent to which the RBI can loosen monetary policy," said Verdi.

The RBI also intervened many times in the market late last year, selling dollars in an attempt to prop up the rupee, which fell to a record low of 54.30 against the dollar on December 15.

The central bank also announced a series of measures aimed at cutting out speculative bets on the currency and boosting capital inflows into Asia's third largest economy.

That intervention stabilised the rupee, and possibly transferred some of the bearish bets into the offshore rupee markets. One-year offshore non-deliverable forward contracts were at 51.85 earlier on Friday, effectively pricing in a 5 percent depreciation in the next 12 months.

Analysts also noted that, like any central bank intervention, the impact of the RBI measures are not long-lasting.

"Most of these measures are temporary in nature and while they are good for the near term stability of the rupee they are negative for long term sustainability," said Bhupesh Bameta at Quant Capital.