How Exchange Rates Affect Stock Market Investments

While many investors focus on company earnings, valuations, and market sentiment, exchange rate movements—especially the INR (Indian Rupee) against the US Dollar—can significantly influence stock market performance.Conversely, theories by Dornbusch and Fisher (1980) argued that the exchange rate affects an economy's international competitiveness, trade balance, and GDP growth. Therefore, it can affect future cash flows and the estimated intrinsic value of domestic firms by investors, consequently affecting stock prices. Currency fluctuations affect importers, exporters, foreign investors, and even the broader economy. Understanding this relationship helps investors better assess sectoral trends, risk factors, and investment decisions. This article explains how exchange rates impact stock market investments in India.

An exchange rate is the value of one currency in terms of another. In India, the most watched rate is INR/USD, representing how many rupees are required to buy one US dollar.

• If USD/INR moves from ₹75 to ₹80, it means the rupee has depreciated.
  

• If it moves from ₹80 to ₹75, then the rupee has appreciated.

Exchange rates fluctuate based on various factors including interest rates, inflation, trade balances, and foreign investment flows.

Exchange rate movements have a ripple effect across sectors and investor sentiments. Key ways this influence manifests include:

Impact on Export-Oriented Companies

When the rupee depreciates, Indian goods become cheaper in global markets, benefiting exporters. This often results in:

• Higher revenue in INR terms
  

• Improved profit margins, especially for companies with USD-denominated sales
  

Sectors positively impacted:

• Information Technology (IT)
  

• Pharmaceuticals
  

• Textiles
  

• Auto parts (exports)
  

Impact on Import-Dependent Companies

For companies that rely on importing raw materials, machinery, or crude oil, a weaker rupee means higher input costs. This can reduce margins and profit growth.

Sectors negatively impacted:

• Aviation (due to jet fuel costs)
  

• Oil marketing companies
  

• Automobiles (with high imported components)
  

• FMCG companies (dependent on imported packaging or ingredients)

Exchange rate changes affect the cost of imported goods, overseas travel expenses, and foreign education fees. A weaker domestic currency makes imports and travel abroad more expensive, while a stronger currency can lower these costs. Currency movements can also influence inflation, interest rates, and even the returns on investments with international exposure.

Influence on Foreign Institutional Investors (FIIs)

FIIs are sensitive to currency movements because their returns are in foreign currency. A depreciating rupee can erode their gains in rupee-denominated assets.

• Rupee depreciation may lead to FII outflows, weakening market sentiment.
  

• Rupee appreciation can encourage FII inflows, boosting stock indices.
  

Corporate Borrowings in Foreign Currency

Some Indian companies borrow in foreign currencies for lower interest rates. A falling rupee increases the repayment burden of such loans in INR terms.

Sectors to watch:

• Infrastructure
  

• Telecom
  

• Power
  

• Shipping

Exchange rate volatility can lead to broader market swings, especially in uncertain global environments. A sudden depreciation due to geopolitical tensions or global interest rate changes can trigger:

• Sell-offs in equity markets
  

• Flight to safer assets like gold or US bonds
  

• Increased volatility in sectors with foreign exposure

• Interest Rates – Higher interest rates often attract foreign capital, strengthening the currency.
  

• Inflation Levels – Lower inflation tends to support a stronger currency; high inflation usually weakens it.
  

• Economic Growth – Strong GDP growth can boost investor confidence and demand for the currency.
  

• Political Stability – Stable governance attracts investment, while uncertainty can lead to currency depreciation.
  

• Trade Balance – A surplus (more exports than imports) can strengthen a currency, while a deficit can weaken it.
  

• Foreign Investment Flows – Higher foreign direct investment (FDI) or portfolio inflows increase demand for the currency.
  

• Speculation – Traders’ expectations about future performance can influence currency demand and supply.
  

The interplay between currency movements and equity markets can be seen in several real-world scenarios, such as:

IT Sector Rally During Rupee Weakness

IT stocks like Infosys and TCS often rally when the rupee weakens against the dollar, as a large portion of their revenue is from overseas contracts.

FII Outflows During Currency Stress

In 2013, during the taper tantrum, the rupee fell sharply, triggering a large pull-out by foreign investors, leading to a market correction.

Oil Price & INR Link

As India imports over 80% of its crude oil, any rupee depreciation combined with higher global crude prices exerts pressure on inflation and market stability.

Exchange rate movements also affect:

• Global mutual fund and ETF returns in rupee terms
  

• Indian Depository Receipts (IDRs) and foreign listings
  

• Diversified portfolios with exposure to export/import companies
  

Hence, understanding currency trends can help investors position their portfolios more strategically.

Investors can monitor exchange rate data and forecasts through:

• RBI bulletins and monetary policy statements
  

• Forex market updates via brokers and financial portals
  

• Global events affecting currency movements (e.g., US Fed announcements, oil price shocks)
  

Though direct hedging may not be feasible for all retail investors, risk can be managed by:

• Diversifying across sectors with different currency exposures
  

• Including exporters and companies with dollar revenue in the portfolio
  

• Monitoring currency-sensitive sectors before making investment decisions
  

Exchange rate fluctuations are more than just macroeconomic data—they have a direct impact on corporate earnings, investor flows, and sectoral performance in the stock market. Whether you're investing in IT stocks, energy companies, or tracking foreign investments, understanding the INR's movement against global currencies can help you make more informed and resilient investment choices.

This content is for informational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.