India is likely to be added to the global bond indexes by the first quarter of 2022, which would lure $40 billion of inflows to the country’s debt market in the next two years, according to Morgan Stanley.

“Foreign ownership of Indian government bonds has been declining, but 2022 would be the turning point that could bring an acceleration of bond inflows,” Morgan Stanley strategists led by Min Dai, wrote in a note. The inclusion in global bond indexes should bring $18.5 b in inflows every year over the next decade, compared to just $36.4 b in the last ten years.

India has been striving to get its sovereign bonds included in the famed global bond indexes to lure foreign inflows and reduce the chronic budget deficit, which widened to a record in the fiscal year-ended March as the coronavirus weighed on the economy.

The global bond inclusion “will push India’s balance of payments into a structural-surplus zone, indirectly create an environment for a lower cost of capital and ultimately be positive for growth,” according to Morgan Stanley.

Potential flattening of yield curve

Structural surplus in balance of payments and better productivity could drive 2 per cent appreciation per year in the rupee’s real effective exchange rate. Foreign inflows could flatten India’s sovereign bond curve by 50 bps, recommend going long 10-year bonds, targeting 5.85 per cent yield level.

“A historically steep curve suggests enough risk premium being in the price and foreign demand could drive the curve flatter,” it said.

The inflows would also reduce India’s borrowing cost and improve its debt sustainability, helping retain its investment grade rating. Banks will benefit from stronger growth and lower borrowing costs and private banks, particularly large ones, should be the key beneficiaries. Among non-bank financials, potential beneficiaries are likely to be HDFC, Bajaj Finance, SBI Cards, Mahindra Finance and Cholamandalam Finance.

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