Bonding With The World: India’s Inclusion in Global Indices 💸

While everyone’s been buzzing about the equity markets and the newfound investment craze in India, the debt markets have been quietly undergoing a transformation.

Foreign portfolio investors (FPIs) have invested over Rs. 29,000 crore in India's debt market from January to September 2023, a big turnaround from the ~Rs 9,000 crore outflow during the same period in 2022.

Except for a Rs. 2,500 crore sell-off in March, FPIs have been net buyers every month in 2023, contrasting sharply with the near Rs. 16,000 crore sell-off in 2022.

Why Is This Happening?

The Indian government started discussing the inclusion of its securities in global indexes in 2013, but foreign investment restrictions delayed progress. In April 2020, the RBI introduced the "fully accessible route" (FAR), exempting certain securities from foreign investment limits.

On September 21, 2023, global index provider JPMorgan announced that Indian government bonds would be included in its Emerging Market indices, including the EMBI, GBI-EM, and CEMBI series. This inclusion will occur over ten months, from June 28, 2024, to March 31, 2025, at a rate of about 1% weight per month.

The index weighting of Indian bonds is expected to reach a maximum weight of 10% in GBI-EM Global Diversified Index, 8.7% in the GBI-EM Global Index and 14.6% in the GBI-EM Global Diversified IG 15% Cap Index.

The inclusion of Indian bonds in the JPMorgan index is expected to attract US$ 20-25 billion in global investments into local debt. Interestingly, since the announcement in September last year, these index-eligible bonds have already drawn in US$ 10 billion.

Impact Of Inclusion

Inclusion in global bond market indices signifies international recognition and acceptance, highlighting the maturity and attractiveness of a country's financial market to global investors.

1. Impact on Currency- As money flows into India due to the inclusion of Indian bonds in global indices, the rupee may strengthen

2. Impact on CAD- Currently, Indian financial institutions dominate the purchase of Indian bonds. With the inclusion, it will attract a broader investor base, expanding the market for Indian bonds. This influx of investment could also aid in narrowing the current account deficit

3. Inclusion in other Indices- India's inclusion in the JP Morgan EM Bond Index enhances its prospects for entry into the Bloomberg Global Aggregate Index and FTSE Russell. This potential could drive increased investment flows into the Indian market

4. Impact on cost of borrowings- Increased demand for Indian bonds is expected to push prices higher and reduce yields. This could lower the cost of borrowing (cost of capital) as more funds become available for investment at potentially lower rates

Why Should You Care ?

Banks, insurance companies, and mutual funds have been the main buyers of government debt. Adding new investors will help lower bond yields and the government's borrowing costs.

This is mainly because the supply of bonds will be limited and demand will increase, leading to price increase and hence decrease in bond yields. It is expected that the benchmark bond yield will drop 10-15 basis points to 7% soon. Corporate borrowers will benefit as their costs are tied to government bonds.

Access to lower-cost funds will enable companies to boost investments. As foreign investors acquire more government bonds, domestic institutional investors will explore alternative investments. This surplus capital can address long-term financing needs in areas like infrastructure.

This inclusion is a positive for the equity markets. Lower bond yields, reduced borrowing costs, and extra capital for domestic institutional investors will all support the Indian economy. With potential rate cuts on the horizon and inflation under control, India's long-term growth story remains strong.