- Wealth PMS (50L+)
A reader mails in:
While reading thru the financial page of a newspaper I read this –
"The rupee surged to a six-month high against the dollar on Thursday & closed at 44.20, up from a low of 52.06, 18 months back. With the dollar likely to fall furthur against the rupee, IT firms will be hit hard as their products will become costlier."
Can you explain – in layman terms – the head-and-tail of this financial phenomenon?
I mean how can 52.06 be considered "low" against 44.20?
How can IT products become costlier because of this?
The exchange rate quoted is Dollar/Rupee – that is, how many rupees does it take to buy one dollar?
If you invert the rates – how many dollars are needed to buy one rupee, then
(1) 52.06 translates to 0.0192
(2) 44.20 translates to 0.0226
that means the rupee in (1) above buys far lesser dollars than (2). Also the second figure is higher, so you can see why “44.2” is a high for the rupee, versus 52.06.
Why do IT Products become costlier when the rupee’s at a high?
That’s assuming they bill in rupees, then people abroad have to pay more dollars to give them the same number of rupees. Not entirely true, because companies usually bill in dollars.
Even then, it hurts. The conversion of the same dollars returns a lower number of rupees; and since salaries tend to remain constant, the costs are in the same as rupees. Do the math – a lower rupee revenue, similar rupee cost = lower margins.
Again, not entirely true. Companies use forex “hedges” to counter this. They sell dollars “forward” meaning they will settle at a later date, and thus “lock-in” the exchange rate. (Read: Futures and Options: An Introduction)
But that can screw things up in sharp upmoves. From MTM overruns….Okay, I’ll stop here. 🙂
This forex business is not simple. But it’s not supposed to be.