USD/INR forecast: A majority for BJP-led NDA would be positive for Rupee, but upside limited

• Exit pollls show a clear majority for the incumbent BJP-led NDA. 
• Post-election INR appreciation will likely be short-lived, according to historical data. 
• A BJP defeat could prove costly for Indian assets. 

Indian Rupee and stock markets have picked up a strong bid in the run up to the election results, due this Thursday. 

The Sensex rallied 1,422 points on Monday – the biggest single-day gain in over a decade, while the Rupee gained 70 paise against the greenback. The Indian assets are expected to trade on the offensive ahead of election results, as exit polls have unanimously predicted a clear majority for the ruling party and continuation of the pro-business Narendra Modi-led government. 

Put simply, expectations have been built that the incumbent government will be elected with a clear majority. That has left the doors wide open for a sell-off in Indian assets if the results contradict the exit polls. 

Scenario I: BJP-led NDA gets a clear majority

The USD/INR pair will likely see big losses on Thursday only to bottom out in the next week or two if the BJP-led NDA gets a clear majority as expected. 

It is worth noting that the BJP victory is being priced in since the end of February. Back then, the INR was trading 71.50 and fell to a low of 68.30 by mid-March. Had oil prices remained flat to negative, the INR would have appreciated further. So, the Indian currency could lose ground on “sell the fact” trade if the outcome of the elections is in line with the exit polls.

What does historical data indicate?

Supporting that analysis is the historical data, which shows the INR had witnessed a similar “buy the rumor, sell the fact" trade in 2014.

The Rupee had appreciated from 63.50 per US dollar to 59.36 in four months leading up to the election results on May 16, 2014. On that, USD/INR fell 1.52% to 58.46 and extended losses further to 58.16 on May 22 before turning higher. By December 2014, the pair was trading at 64.30. 

Also Rupee had gained 4.4%, 0.10% and 0.4% in one-month following the conclusion of voting in 2009, 2004 and 1999, respectively. 

All-in-all, the USD/INR could drop to 68.00-67.50 before turning higher. 

Scenario II: Coalition government

As noted earlier, expectations of a clear majority for the BJP-led NDA have been built in the markets. So, anything less than that could put pressure on the Rupee. 

USD/INR will likely rise above the recent high of 70.78 in the short-term, reviving the bullish view put forward by the falling wedge breakdown, confirmed last week. 

Scenario III: Congress-led UPA win

This is the least likely outcome, as per the exit polls. Markets haven’t even considered the possibility of Congress-led UPA victory. Indian assets, therefore could take a beating if the BJP is ousted from power, leading to a near 90-degree rise in USD/INR, possibly to new record highs. The panic, however, could be short-lived, as empirical data suggests the foreign institutional investors (FIIs), irrespective of who the Prime Minister is, do not sell Indian assets. That behavior will likely continue amid the ultra loose monetary policy in advanced world and with India’s high yield.

Weekly chart

As seen above, the pair closed last week at 70.42, confirming a falling wedge breakout – a bearish-to-bullish trend change. So far, however, the follow-through has been bearish, courtest of exit polls. The currency pair may drop to the 100-week moving average (MA), currently at 67.67, if the election results are in line with the exit polls. 

The falling wedge breakout would further gain credence if the spot rises above the previous week's high of 70.78, which looks likely if the Congress comes out vicctorious or a hung parliament forces the BOP to form a coalition. A break above 70.78 would open the doors to retest of record highs above 74.00.