India hopes for $30bn as bonds near index inclusion

Bloomberg

India is inching towards a major milestone: opening its $1 trillion government bond market to more international investors, one of the most ambitious attempts to attract foreign inflows since the country liberalised its economy three decades ago.
Policy makers have spent months preparing to join global indexes, key benchmarks that increasingly determine how large asset managers allocate their capital. And now, after a series of fits and starts, analysts expect the world’s last big emerging market to finally get the nod this year or early 2023 by providers such as JPMorgan Chase & Co and FTSE Russell.
Entry into major indexes is a step change for India, which has long lagged behind peers like Brazil and South Africa in tapping global financial markets. Foreign investors hold only about 2% of all outstanding government securities and the country’s central bank has historically been averse to large debt inflows.
But inclusion may finally make India a hot ticket for capital: In three years since China was added to global indexes, foreign ownership of nation’s government bonds rise to 11%, up from 7.6%, leading to a boost in confidence in its fixed-income market and internationalisation of the yuan.
Prime Minister Narendra Modi needs overseas buyers. Local demand for government debt is drying up and the Reserve Bank of India is no longer buying bonds. But big investment banks expect index inclusion to prompt one-off flows of $30 billion to $40 billion. That amount would fill a funding gap, lower public-borrowing costs and potentially strengthen the rupee.
For Wall Street and the City of London, India’s inclusion offers an opportunity to diversify holdings and penetrate deeper into an economy that’s growing at one of the fastest paces in the world.
Nivedita Sunil, the portfolio manager for Asia and emerging-market debt at Lombard Odier in Singapore, called India “an attractive alternative” to its regional peers, in part because of “high domestic ownership owing to high domestic savings rates and relatively low correlation to other EM global bond markets.”
Banks including Morgan Stanley expect inclusion to some indexes as early as the second quarter. JPMorgan Chase and FTSE Russell have India on their watch-lists. There is currently no estimated timeline for India’s inclusion to the Bloomberg Global Aggregate Index, according to Steve Berkley, the chief executive of Bloomberg Index Services Ltd.
“We will continue to carefully review and consider operational reforms taking place in India, alongside feedback from global investors, before making any decisions,” he said.
Bloomberg LP is the parent company of BISL, which administers indexes that compete with other providers.
A capital gains tax on foreigners who invest in local debt has held India back, as has a cap of 6% on global ownership of government bonds. India has also been trying for years to get its bonds on international clearing platforms like Euroclear, which investors often see as a sign that index inclusion is imminent.
To remove barriers, India made the cap flexible in 2020 by allowing a new set of bonds to be fully eligible for foreign ownership. The national budget in February may exempt Euroclear settlements from taxes, too, further paving the way for inclusion, Bloomberg News reported in November.
But embracing an open bond market is still a change of mindset for India. The central bank has tended to see international debt inflows as volatile and adding to the headache of managing a partially convertible rupee, as opposed to a fully floating one like most Group of 10 economies have. A large outflow from foreign-bond investors in 2013, for example, coincided with a steep drop in the rupee.
While capital from index inclusion is less sensitive to domestic turbulence, recent IMF research found that inclusion inflows are between three to five times more reactionary to global financial conditions.