The removal of Russian sovereign bonds from the global bond indices in March had led to heightened expectations that Indian sovereign bonds will replace the Russian securities in the next review of the index . There were hopes that the weight assigned to Indian sovereign bonds could be over 9 per cent of the JPMorgan GBI-EM global diversified index and if other index providers such as Bloomberg too followed suit, that would result in demand of over $20 billion for Indian government securities from the exchange traded funds tracking these indices. Indian 10-year bond yields had declined 50 basis points since June based on these expectations. But JPMorgan has decided to retain Indian sovereign bonds on watchlist, citing lengthy registration process and the lack of ‘operational readiness required for trading, settlement and custody of assets onshore” as reasons for non-inclusion. These reasons appear truly ‘specious’ as the Chief Economic Advisor V. Anantha Nageswaran said in a recent interview. When global investment funds investing in stock market have not faced any operational difficulties in investing over $300 billion in India, it is tough to reason as to why should bond investors have other views about the FPI registration process and market infrastructure in India. The delay appears to be a result of the higher perceived risk of rupee depreciation, poor return expectations from Indian sovereign bonds given India’s fiscal situation and the control on the movement of sovereign bond yields in India.

However, there are several reasons why policymakers need not worry about the non-inclusion in the index now. One, given the aggressive global central bank tightening likely over the next year, Indian currency is likely to face continued volatility in the coming months. The current low foreign portfolio holding of Indian government securities at 1.43 per cent could turn out to be a blessing if turbulence persists, as outflows from global bond ETFs could weaken the currency further. Two, inclusion in the global bond indices does not guarantee continued annual inflows into Indian G-secs. ETFs tracking these indices have witnessed large outflows this year following the rout in most emerging market bonds. Net asset value of these funds have declined between 12 and 22 per cent over the last one year and Financial Times reports that EM bond ETFs have witnessed outflows amounting to $70 billion so far this year, the highest annual outflow since 2005. Three, India has managed past external account crises such as the one in 2013 without the support of money from global bond ETFs. This is not the only means to buttress the currency or bond yields.

That said, there are obvious long-term benefits from inclusion of domestic sovereign securities in the global indices. FPI holding of Indian G-secs compares poorly with countries such as Indonesia, South Africa, Mexico and Brazil where foreign investors hold between 20 and 45 per cent of government bonds. While a conservative approach has helped the country so far, it may be time to ease the entry of foreign investors in the government bond market, albeit on our own terms and in a calibrated manner.

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