Bond investors positioned for India's index inclusion: Morgan Stanley

By Subhadip Sircar

Investors tracking JPMorgan Chase & Co.’s emerging markets bond index have already positioned for India’s inclusion, with 3.6 per cent of their assets allocated to the nation’s sovereign debt at end-May, according to Morgan Stanley.

Most of the investors are active fund managers who don’t need to add exposure as India is added to the gauge on Friday, Min Dai, head of Asia macro strategy, wrote in a note. More than half of them have already increased their India exposure, he said.

India’s index-eligible bonds have attracted $10 billion since the inclusion was announced in September. This event could likely draw $20 billion to $25 billion of global flows into local debt, according to JPMorgan. The nation will have a 1 per cent weight in the index, which will gradually rise to 10 per cent over a 10-month period. 

“Investors could have some moderate overweight in both rates and FX in the size of 1 per cent-2 per cent”, if India keeps the rupee stable, maintains a hawkish monetary policy stance and the budget deficit is moderate, Dai wrote in the note dated June 21. This suggests investors still need to add 8 per cent-9 per cent of their assets in India over the next 10 months, he said. 

JPMorgan estimates that foreign ownership of India’s bond market will nearly double to over 4.4 per cent of outstanding, from the current 2.5 per cent, over the next 12 months. Additionally, investors are overweight on the rupee, with 2.9 per cent holding driven by pre-positioning ahead of the index inclusion.

India’s debt has become a favorite among emerging markets, with investors attracted to the nation’s solid finances and a stable currency. The country’s inclusion will come at the expense of Thailand, South Africa, Poland, the Czech Republic, Brazil and Columbia, according to Morgan Stanley.

“Investors would need to either sell these markets’ bonds to fund India trades or use any new inflows to buy into India,” Dai wrote. “This could prove to be a headwind for some of the biggest GBI-EM countries in the next 10 months.”

India’s addition will put Asia’s weight at 47.6 per cent in the index, while a possible addition of the Philippines could take the region’s weighting above 50 per cent, the note said. 

JPMorgan has proposed two possible steps to rebalance the index in its latest consultation, Morgan Stanley said. One suggestion is to cap Asia at 40 per cent, which would give more weight to Latin America. The second measure would reduce the weight of major economies, effectively lowering China’s weight from 10 per cent to 6 per cent, it added.