Foreign funds may exit Indian bond market if index inclusion is delayed

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Foreign funds will continue to reduce their holdings of Indian government debt after JP Morgan delayed the inclusion of the country’s bonds in its global index, prompting a further rise in yields, analysts said.

“Since mid-September, we have seen capital outflows due to expectations that index inclusion may not materialize in 2022,” said Nagaraj Kulkarni, co-head of rates strategy for Asia, excluding China at Standard Chartered Bank. “There is still room for further bond outflows.”

Earlier this week, JP Morgan said India remained on the radar for inclusion in its influential Emerging Markets Local Currency Debt Index after a review, dashing hopes that Asia’s third-largest economy would be added this year.

Some investors cited obstacles to investing, “including a lengthy investor registration process and the operational readiness required for trading, settlement and custody of assets onshore,” JP Morgan said in its statement.

Indian government bonds suffered a selloff, with the benchmark yield rising nine basis points on Thursday following the move. It last traded at 7.46%.

Foreign investors and banks had turned buyers of Indian bonds in July-September, solely on bets that India could be included in global indices, with some overseas brokerages expecting an announcement after a review this month .

Foreign investors had made a net purchase of 100 billion Indian rupees ($1.21 billion) of bonds under the fully accessible route, or FAR, in July-September.

Bonds under FAR have no investment limit.

Along with a delay in index inclusion, rising US yields as well as rising oil prices will also hurt investors’ appetite for local debt, some economists said.

“There is more risk than one on bonds. First of all, the hawkish Fed and therefore high US yields are likely to drive up domestic bond yields,” said Swati Arora, senior economist at HDFC Bank. .

Additionally, Arora highlighted the chances of RBI raising the repo rate to 6.50% by March from 5.90%. FOCUS ON PROCUREMENT

With index inclusion bets collapsing in the near term, market participants will now focus on the large supply of bonds expected for the remainder of this fiscal year.

“Supply pressure is likely to put upward pressure on bond yields,” echoed Standard Chartered Bank’s Kulkarni.

The benchmark bond yield will trade in the range of 7.50% to 7.75% during this quarter, he added.

India’s federal government aims to borrow Rs 5.92 trillion gross through bonds in October-March, while the states plan to raise Rs 2.53 trillion in the December quarter. Government borrowing could increase further in the last quarter of the financial year.

“Heavier government debt supply and a marginal shift in composition to longer segments could weigh on 10-year maturities and beyond,” said Ashish Agrawal, head of macro FX and EM strategy research, Asia. , at Barclays.

“Demand is likely to remain defensive as investors factor in higher funding rates and residual crunch risks,” Agrawal added.

Meanwhile, a mismatch between supply and demand, as well as tighter liquidity conditions will weigh on bonds, HDFC Bank’s Arora said.

This story was published from a news feed with no text edits.

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