FPIs stock up on long duration papers ahead of JP Morgan bond inclusion

$10.4 billion bond inflows since Sep '23

Foreign portfolio investors (FPIs) have been positioning themselves in longer-duration government securities ahead of the inclusion of government bonds in the JP Morgan bond index, starting June 28.

Off-the-run bonds, such as the 7.18% 2037, 7.26% 2033, and 7.18% 2033 bonds, also saw increased demand from foreign investors.

In September 2023, JP Morgan had announced that it will include government papers, issued by the Reserve Bank of India (RBI) under the Fully Accessible Route (FAR), in its widely tracked GBI-EM.

The inclusion process will be phased over a 10-month period, with 1 per cent weight included each month until March 31, 2025. Indian bonds will have 10 per cent weight, similar to China.

 

Indian government securities have seen inflows of $10.4 billion since the index inclusion announcement in September 2023.

While foreign banks were the major buyers in the month of June, state-owned banks sold bonds at a profit over the month which kept the 10-year benchmark yield in a range.

“The market is going into the event with good momentum and positive bias,” said Siddharth Shah, Executive Vice President at STCI Primary Dealer.

“In case of some domestic investors, there has been change in their investment norms, and given the demand coming in on account of the bond index inclusion, there is an inclination from their side to book some profit. The benchmark yield should remain in the current range of 6.95 per cent-7 per cent in the near future,” he added.

The yield on the benchmark 10-year bond settled at 6.99 per cent on Tuesday.

Out of 38 FAR securities, only 28 bonds with the outstanding amount of $413 billion are eligible for inclusion.

The current benchmark securities continue to have low foreign investments.

Index-eligible bonds have recorded inflows of only $8.3 billion and four off-the-run issues alone have received 66 per cent of the foreign investments, according to a note by HSBC.

The report said that 5-year, 7-year, 10-year and 30-year benchmarks alone could closely track the return performance of the 28 bonds eligible for inclusion given the low foreign positioning, their availability through auctions, and the relative increase in their index weight versus other bonds. The report highlighted that a large part of inflows via inclusion has yet to materialise and this is likely to be led by benchmark issues.

“Foreign banks have been buying for their clients for total return swaps. I think a lot of people are positioning and given that this is the middle of the financial year for foreign banks, they know that if they buy today towards the end of the calendar year, they will be able to sell and book some profit,” said treasury head at a private bank.

“So now that the curve is flat and I don't think there is too much upside risk. So, people aren't really worried about buying duration (longer duration) right now. It probably makes sense if you have some stomach to hold. Obviously the money to be made in duration bonds will be more when rates start cooling off,” he added.

Inflows of approximately $25 billion from FPIs are expected into index-eligible bonds designated under the fully accessible route. Currently, the old 10-year bond has the highest FPI holding among the FAR securities.

“I think there is still some build up which is taking place. There was some selling pressure but some build up is taking place. So hopefully we should see some small rally after June 28. While I am not particularly hopeful of a big rally, I think we should see a few basis points rally,” said the treasury head at a private bank.

On the other hand, a segment of the market doesn’t see a significant impact on the bond yields as the inflows have already been factored in by the market.

“The money that will come into the market will be $2 billion or so. Active funds are already deployed and a lot of money has already come in. So it won't make much of a change. Probably two or three basis points (yield on benchmark bond) here or there,” said Vijay Sharma, senior executive vice president at PNB Gilts.

“There is no surprise element in it now,” he added.