Brent Above $106 And Rising: What A Test Of $120 Would Mean For India's Rupee, Inflation And Stocks

Crude jitters turned worse on Wednesday, when Brent futures briefly surged past the $107-mark. At the time of writing this report, the oil rates slightly eased to $106.3 a barrel, still up 0.6% as against the previous day's close. The immediate trigger for the climb was the escalation in the conflict between Yemen's Houthis and Saudi Arabia.

Mohammed Imran of Mirae Asset Sharekhan, as quoted by Business Standard, expects crude to turn more volatile ahead of the US midterm elections. He believes Brent may test resistance at $120 a barrel in the near term.

That is a risk, not a forecast. But India imports nearly 85% of its oil, and a move towards $120 would potentially hit three key elements of the economy all once, including the rupee, inflation and equities.

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Notably, crude rates are up over 70% this year, after starting at around $60 a barrel. It peaked at $126.41 on April 30, when the conflict between the US and Iran was at its worst point.

India has absorbed $100-plus crude for months, but a $120-climb may adversely impact the country's battle against inflation, and may worsen the outflow of foreign insititutional investors from the domestic market.

Pressure On Rupee

The rupee has fallen more than 7% this year. The Indian currency tested record low figures in May and early October, when it neared the 97-mark against the US dollar.

The RBI's weekend measures have helped. The central bank now supplies the full dollar needs of IOC, HPCL and BPCL, which analysts estimate at $10-12 billion a month, and tightened rules on rupee derivatives. The rupee recovered to 95.28 on Tuesday and strengthened to about 94.92 on Wednesday morning, a gain of nearly 2 per cent from Friday's close.

Finance Minister Nirmala Sitharaman said on Tuesday at the Bloomberg New Economy Forum that the RBI will keep working to prevent excessive volatility rather than fix the rupee at a set level.

The relief may not last. HDFC Bank economist Sakshi Gupta was reported as saying by Business Today on October 8 that rate hikes are a weak short-term defence, and that the rupee's weakness comes from oil, equity valuations, foreign outflows, the AI trade and dollar strength. Mecklai Financial Services warned in the same report that a break above 97 could take the rupee towards 98.50.

By the RBI's rule of thumb, a $10 rise in crude widens the current account deficit by about 0.5 percentage points of GDP, HDFC Mutual Fund said in a note issued on its website on September 16. A move from about $106 to $120 would, on that arithmetic, add roughly 0.7 percentage points.

Inflation Woes

Prices are already rising. Retail inflation climbed to 5.54% in September from 4.82% in August, a jump of 72 basis points, and above the 5.40% forecast in a Reuters poll, according to data released on October 12. Food inflation rose to 7.74% from 5.97%.

The RBI raised its repo rate by 25 basis points on October 7, its first hike in almost four years. It projects 5.2% inflation and 7.1% growth for the year to March 2027. Goldman Sachs Chief India Economist Santanu SenGupta told NDTV Profit on Oct. 9 that the RBI is anticipated to raise interest rates another three times by June, bringing the total increase to 75 basis points.

A jump in crude oil prices will adversely impact inflation, which in turn may potentially compel the RBI to prolong its rate-hike cycle.

According to an RBI bulletin, a 10% rise in crude adds about 20 basis points to inflation. A move to $120 is about 13%, which would mean roughly 25 basis points more on inflation if sustained. That would take the inflation reading even close to the RBI's 6% upper tolerance limit.

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Impact On Stocks

The market link to crude is not day to day. On Tuesday, the Nifty jumped 1.60% to 22,721.95 with Brent still above $104, driven by a 5.2% surge in Nifty IT on HCLTech's results, and the government's indication on a rethink over securities transaction tax. 

However, as precedent shows, higher oil rates would eventually outweigh the temporary relief that the market draws from other corners.

Over the past 12 months, Nifty is down over 11%, which comes simultaneously with a 72% climb in Brent.

Secondly, foreign outflows expand as well when oil rates soar. In July and August, when there was a lull in US-Iran conflict and oil rates slipped below $90, foreign investors were net buyers of about Rs 20,200 crore and Rs 30,919 crore, respectively, per depository data. Brent crossed $100 on September 9 for the first time since July. Since then they have turned sellers, offloading Rs 35,861 crore in September and Rs 45,416 crore in October so far.

Not all stocks will be equally impacted by the climb in oil prices. The worst-affected would be the oil marketing companies, as domestic rates generally do not rise in tandem with the global prices. ICRA estimated in a Sept. 23 note that IOC, BPCL and HPCL were losing about Rs 8 a litre on petrol and Rs 9 a litre on diesel, a combined loss of about Rs 530 crore a day. Their shares trade roughly 27% to 35% below their 52-week highs.

“The comfort for the market in the medium to short term will only come from a retreat in crude oil prices,” WealthMills Securities' Kranthi Bathini told NDTV Profit. “OMCs will stay under pressure till crude is elevated,” he said.

On Wednesday the market was flat in morning trade. The Sensex swung between 72,894 and 73,195 and the Nifty between 22,664 and 22,758, with IT up more than 1.5% and pharma and PSU banks down more than 0.8%.

Despite the fresh headwinds, India is better placed than in earlier oil shocks. HDFC Mutual Fund, in its note issued last monthm estimated the current account deficit would reach about 2.1% of GDP if Brent averaged $100 this fiscal year, which it calls manageable because of services exports and remittances.

For the stock market, there's also relief in the fact that valuations have softened, turning large-caps attractive for institutional buyers. The Nifty trades at 19.1 times trailing earnings against a long-term median of 20.9.

There's also cheer on the macro front, with the International Monetary Fund raising its FY27 growth forecast for India to 7% from 6.4% on Tuesday.

The real test, say analysts, would come if $120 holds. The rupee's defences, the RBI's inflation fight and foreign investors' patience would all be tested together.

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