The inclusion of India’s sovereign bonds in JP Morgan’s emerging market index after a prolonged wait points to how India’s financial markets cannot be ignored by foreign investors, especially given the geopolitical compulsions making them move away from Russian sovereign securities. Significantly, this has happened without India becoming a member of Euroclear or other global clearing houses; or giving any immediate tax concessions to global investors.

It is good that the government has been working on improving accessibility of Indian bonds by introducing the Fully Automated Route, which has made the inclusion possible. Twenty three government bonds valued at $330 billion are now eligible for inclusion in global indices. The inclusion in JP Morgan’s index is a good first step and the additional inflows due to this will certainly buttress the rupee and the external account, have a positive impact on bond yields and support the government borrowing programme. The bond market in India however did not react much to this development; the 10-year government bond yield hardened slightly on Friday. Main reason for this is that the move was already known to bond markets with foreign investors turning net buyers in Indian sovereign bonds in September. It is due to this reason that Indian government bond yields have stayed stable this month even as bond yields in other regions spiked higher due to the US Fed’s hawkish stance in the recent policy meeting. Also, short-term impact could be less since the bulk of the inflows are expected after a year since the weight for India in the JP Morgan emerging market index will be increased to 10 per cent over 10 months commencing from July 2024.

While high projections for potential inflows are being given by some brokerages, we need to wait for a year to see if these projections are met. Active funds benchmarked against the index are free to buy Indian government bonds to the extent they want. With FPIs utilising only 24 per cent of the limit in Indian sovereign bonds currently, it is apparent that they are likely to go slow in ploughing money into G-secs. The high yields in sovereign bonds of advanced economies, especially the US, combined with the high inflation and fiscal deficit of India is likely to influence their investment decisions.

Also, while passive fund inflows can come next year, sustainable inflows every year is possible only if the emerging market funds keep getting investments. On the other hand, if these funds witness outflows due to geopolitical factors, central bank actions and so on, Indian government bonds will also face selling pressure, pushing yields higher. The RBI will have to be ready with its arsenal to defend the rupee and bonds, in such conditions. Along with trying to get inclusion in global bond indices, the Centre should also focus on increasing participation of domestic retail investors in G-secs, so that they can counter any future volatility caused by foreign investors.