The rupee had a rough ride in 2025, with the currency falling sharply against the US dollar as geopolitical uncertainties and trade tensions drove massive outflows of foreign institutional money from Indian markets. As foreign institutional investors pulled out in droves, the demand for the dollar increased, in turn pressuring the rupee. As we head into the new year, developments on these two fronts will play a crucial role in how the rupee moves.
The rupee had begun 2025 on a weaker note, closing lower at 85.64 on January 1 on the back of a strong dollar. Throughout the year, it only continued to weaken further and breached the 91 mark to the dollar earlier in December, hitting a lifetime low. Interventions by the Reserve Bank of India (RBI) since the last few days have pulled back the rupee somewhat, and it closed at 89.85 against the greenback on Friday, December 26.
Typically, economists consider a 2-3 per cent annual rupee depreciation against the dollar as normal, considering India runs a current account deficit. This year, however, amid the persistent outflows by FIIs and trade and tariff-related uncertainties, the fall accelerated, with the rupee slipping near 6.4 per cent to its life low of 91.14. Even as it has recovered in recent days, it’s still down close to 5 per cent.
In 2025, till December 26, foreign portfolio investors had pulled out $18 billion from India’s equity markets. While they have been net investors in the debt market, their overall pullout is still over $10.8 billion this year, according to data from NSDL. In contrast, in 2024, they were net buyers to the tune of $19 billion, although their equity investments were still marginal at $124 million.
The rupee underperformance in 2025 was less about India’s domestic fundamentals and more about US politics and trade uncertainties, raising the risk premium on Indian assets, according to Philip Wee, senior forex strategist at Singapore’s DBS Bank.
“Despite India posting accelerating GDP growth and disinflation, the rupee suffered its largest annual depreciation since 2022. The Trump administration’s aggressive tariff stance and ambiguity surrounding a US-India trade deal undermined India’s external outlook, at a time it reported a wide trade deficit,” said Wee.
Earlier this week, the Reserve Bank of India in a bid to infuse liquidity in the system, announced plans to purchase government securities worth Rs 2 lakh crore. It also announced a $10 billion dollar-rupee swap auction, which could stabilise the rupee somewhat. The open market operations and the swap auction will be carried out between December 29 and January 22, 2026.
Towards the end of 2024, India’s equity markets were trading at a significant premium to other markets. With markets underperforming this year, compared with other major developed as well as emerging markets, those premiums have come down, especially in largecaps, although smallcaps are still expensive, according to market experts.
After multiple quarters of slow growth, corporate earnings are also expected to improve next year. Whether better valuations and an improving earnings outlook bring back FIIs in 2026 will have to be seen.
A crucial factor that could sway sentiments is the potential bilateral trade deal between India and the US. Currently, the US levies 50 per cent tariffs on Indian imports, putting Indian companies at a significant disadvantage to other major exporting countries. Both sides have for some time said that negotiations are progressing positively, but a deal has so far been elusive.
India and the European Union are also engaged in trade negotiations, and indications are that this deal should also materialise in the coming year. Should either or both of the trade deals be done early in 2026, that will be a huge sentiment booster for exporters, capital markets, investors and in turn the rupee.
There is an expectation that Bloomberg will include India’s government bonds in its global aggregate index next year. If that happens, then potentially there could be around $25 billion worth of foreign inflows into Indian debt markets.
CareEdge Ratings expects the rupee to stay around 89-90 levels against the US dollar in the financial year 2027.
“Expectations of Federal Reserve rate cuts, softer dollar, manageable current account deficit, expectation of trade deal with US and potential inflows from inclusion in Bloomberg Global Aggregate Index, should support the rupee in FY27,” said economists at CareEdge.
Wee of DBS Bank sees the rupee in the 89.5 to 92.8 range against the dollar by the end of 2026.
“In the event of a US-India trade deal that reduces tariffs to levels closer to Asian peers, the rupee could retrace losses, but the recovery is likely to be limited near 86.3 per dollar,” he noted.
