September 28, 2023

What India’s global bond inclusion means for you: Opportunities and risks 

Satya Sontanam | Fixed Income investing

After a long wait, Indian government bonds have finally secured a spot in the global bond indices club. This is an interesting development for India.

Starting June 28, 2024, Indian government bonds will be part of the J.P. Morgan Emerging Markets bond index. India’s share in its Global Diversified Index (GBI-EM GD) is expected to reach 10%. 



So, what exactly does it mean to be included in this index? Well, it’s a big deal because it’s going to bring more foreign investment into India’s debt market. Many global passive fund managers keep a close eye on these indices, and these passive-driven flows make up a whopping 40% of foreign investments in emerging markets.

Of course, there are perks to all this foreign attention.

With more foreign investment, liquidity and demand for Indian sovereign bonds increases. Bond prices tend to go up, and yields fall in the long run. That’s good news. Lower yields could make it cheaper for the government to borrow money. It might even lead to lower interest rates on borrowing for businesses going ahead. 

Speaking of past stories, let’s see what happened in China. One of the research papers stated that the opening up of the bond market played a good role in its development.

“The bond market has greatly increased the proportion of direct financing (borrowing by government) and has strongly supported the growth of China’s real economy. The bond market is crucial to developing the overall financial market and the financial system in China*.” 

And let’s not forget the impact of inflows on the country’s currency. More foreign investors in India mean more demand for our rupee, which can drive its value up. But if the rupee appreciates too much, it could hurt our exports. It’s going to be interesting to see how the RBI (Reserve Bank of India) manages this.

Now, let us talk about the risks too. With great rewards come great risks as well, right?

Higher foreign investments in the passive form can make our debt market more susceptible to global events. Let’s see what the research suggests.

“On the upside, the inclusion in major benchmark indices provides countries with access to a larger and more diverse pool of external financing. Moreover, capital flows become less sensitive to domestic economic developments, which may reduce outflows in response to domestic shocks..”

“..On the downside, growing (foreign passive) funds boost the role of external drivers, making emerging markets more susceptible to swings in global financial conditions. Empirical results show that (passive) flows are about three to five times more sensitive to global risk factors than total portfolio flows,” cited an IMF paper**.

If there are any sudden outflows from our debt market by foreign passive investors, the volatility in our debt market goes up. Yields/interest rates may spike in times of crisis. 

As an investor in the Indian capital markets, you need to be aware of these risks. 

Overall, the inclusion of Indian bonds in the emerging markets bond index is positive for India. However, research suggests that countries with strong macroeconomic fundamentals tend to handle the volatility that comes with foreign participation better, as per the research done in another IMF Paper***.

Amongst all this, if you hold any G-secs or gilt mutual funds (investing in G-secs), you might see appreciation as and when the yields fall. But will they? Current high yields in the US, soaring oil prices, and global uncertainty might limit how much these bonds appreciate in the near future.


*Based on a research paper titled “Do foreign investors affect the volatility of local currency bond prices? Empirical evidence from China” authored by Qian Wang, Shengting Gao, Jiayin Li, and Markus Leibrecht.

**Based on IMF Working Paper on “Benchmark-Driven Investments in Emerging Market Bond Markets: Taking Stock” by Serkan Arslanalp, Dimitris Drakopoulos, Rohit Goel, and Robin Koepke

***Based on IMF Working paper on “Emerging Market Local Currency Bond Yields and Foreign Holdings in the Post-Lehman Period—a Fortune or Misfortune?” by Christian Ebeke and Yinqiu Lu 

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