JP Morgan Forecasts Doubling of Foreign Holdings in Indian Government Bonds

JP Morgan Forecasts Doubling of Foreign Holdings in Indian Government Bonds

Sub: Economy

Sec: EXTERNAL Sector

Overview:

• JP Morgan predicts non-resident holdings of India Government Bonds (IGBs) to nearly double from the current 2.5% to over 4.4% in the next year.
• This prediction is due to proactive measures by Indian authorities to enhance the accessibility of the IGB market for foreign investors.

Index Inclusion:

• India will join JP Morgan’s flagship Emerging Market Local Currency Government Bond indices (GBI-EM GD) starting June 28, 2024, over a phased period of 10 months.
• Only bonds under the Fully Accessible Route (FAR) are eligible for this index. Currently, 27 FAR-designated IGBs meet the inclusion criteria.

Market Reforms:

• JP Morgan, highlighted that India’s market reforms have improved the accessibility of its domestic market for global investors, making IGBs eligible for index inclusion.
• These reforms include better regulatory frameworks and increased market transparency.

Expected Inflows:

• With index inclusion, foreign inflows are expected to be between $20 billion and $25 billion. This is based on the estimated assets under management (AUM) tracking the GBI-EM GD and the anticipated 10% weight of India in the benchmark.

Duration and Yield:

• India will have the highest duration across the index (7.03 years) compared to the Emerging Market/EM Asia average (5.97 years).
• The yield-to-maturity for Indian bonds is above average at 7.09% versus EM Asia’s 3.98%.

Market Size and Turnover:

• India’s local debt stock is among the largest in emerging markets, with outstanding bonds over $400 billion, second only to China.
• The turnover in Indian local market instruments is significant, with over $350 billion in 2023, accounting for more than 9% of total EM local debt trading volume.

Structural Participation:

• JP Morgan sees ample scope for increased non-resident participation in the local bond market, currently one of the lowest in EM.
• The phased inclusion of Indian bonds in JP Morgan’s GBI-EM Global index is expected to sustain demand for these bonds, as index-tracking funds will need to allocate resources accordingly.

Significance:

• Inclusion of Indian bonds in the JP Morgan index reflects India’s growing significance in the global financial markets.
• Enhanced foreign participation is likely to lead to more liquidity and stability in the Indian bond market, potentially lowering borrowing costs for the Indian government.

Fully Accessible Route (FAR) by RBI 

Introduction:

• Objective: To enable non-residents to invest in specified Government of India dated securities without any investment restrictions.
• Implementation Date: Effective from April 1.
• Specified Securities: Government Securities as notified by the RBI for investment under the FAR route.
• Eligible Securities: All new issuances of Government securities (G-secs) of 5-year, 10-year, and 30-year tenors.
• Investment Ceilings: Non-resident investors can invest in specified government securities without being subject to any investment ceilings.

Existing Investment Routes:

• Medium Term Framework (MTF):
• Introduction: Introduced in October 2015.
• Purpose: For Foreign Portfolio Investment (FPI) in Central Government Securities (G-secs) and State Government Securities (SDLs).
• Nature: FPI includes securities and other financial assets passively held by foreign investors.
• Voluntary Retention Route (VRR):
• Purpose: Encourages FPIs to undertake long-term investments in Indian debt markets.

Benefits of FAR:

• Ease of Access: Simplifies the process for non-residents to invest in Indian government securities.
• Global Bond Indices: Facilitates the inclusion of Indian G-secs in global bond indices.
• Attract Large Funds: Helps attract substantial funds from major global investors, including pension funds.
• Stable Foreign Investment: Encourages the inflow of stable foreign investment in government bonds.

In summary, the Fully Accessible Route (FAR) introduced by the RBI significantly opens up Indian government securities to non-resident investors, potentially boosting foreign investment and aiding the inclusion of Indian bonds in global indices. This new route complements existing frameworks like the MTF and VRR, aiming to foster a more robust and inclusive bond market in India.

Bond Yield

• Bond Yield: The return an investor expects to receive each year over the bond’s term to maturity.
• Factors Influencing Bond Yield: Partially depends on coupon payments and the prevailing market price of the bond.

Coupon Payments:

• Coupon Payments: Periodic interest income obtained as a reward for holding bonds.
• Face Value: Bondholders receive the bond’s face value at the end of the bond’s life.
• Market Trading: Bonds may be bought at par value, discount, or premium as they trade in the secondary market.

Bond Yield vs. Price:

• Inverse Relationship: Price and yield are inversely related.
  • As the price of a bond increases, its yield decreases.
  • As the yield increases, the price of the bond decreases.

Example:

• Interest Rate Fall:
  • New bonds offer lower interest payments.
  • Existing bonds with higher interest payments become more valuable.
  • Price of existing bonds increases.
  • As bond prices increase, the yield for new investors decreases because the return on purchasing the bond is lower.

Coupon Amount: The annual interest rate paid on a bond, expressed as a percentage of the face value.

Coupon Rate: The sum of coupons paid in a year divided by the face value of the bond.

Payment Frequency: Coupons are paid from the issue date until maturity.