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Announcement

JP Morgan Chase & Co. has announced plans to add the Indian government bonds (IGBs) to its Emerging Markets Bond index in 2024, particularly the GBI-EM Global Diversified Index on Sep 22 (India inclusion in GBI-EM) and the related derivative benchmarks. Introduction of the FAR securities (Fully Accessible Route), free of ceilings for foreign investors back in 2020 coupled with more reforms to spur portfolio inflows, likely moved the needle for the provider. India had been on “Index watch Positive” since 2021. Expectations are high that other global fixed income benchmarks, including Bloomberg Barclays and FTSE Russell, will also onboard India’s government papers in the coming months, provided further conditionalities are met (our previous note India: Optimism over bond index inclusion resurfaces.).


Operational details

• The main GBI-EM GD index accounts for $213bn AUM of the estimated $236bn benchmarked to the GBI-EM group of indices
• Onboarding process will start from June 28, 2024, with the inclusion of the FAR-designated government bonds to be staggered over 10 months to March 31, 2025;
• The country’s weightage will climb from 1% to 10% in the GBI-EM Global Diversified index, and ~8.7% in the GBI-EM Global index. The other countries with 10% weight (as of Mar25) will be China, Indonesia, and Mexico, whilst Malaysia and Brazil’s weight will moderate from 10% currently to 9.49% and 10% to 9% respectively (see chart);
• As a start, 23 government bonds with a combined notional value of $330bn are eligible, which are under the FAR. At the start of the inclusion period, eligible securities with maturities beyond Dec26 will be considered;
• A significant majority leaned towards India’s inclusion in the index, according to the factsheet. 73% of the benchmarked investors favoured India’s inclusion, with a preference to kickstart the process in Jun24, whilst 17% were neutral and 10% disagreed;
• Details on the tax treatment are awaited. Commentary from the government officials suggest no concessions have been made on the tax front. Separately, indications from one of the JPMorgan bond indices (GB-EM Global 10/1 index) to provision/ account for the impact of withholding taxes on earned interest on international investors, suggests this might become the broader practise;
• Russia’s exclusion from the index last year and the consequent reweighting exercise (to make the index better balanced) also provided a window for India’s inclusion. The latter makes the index more diversified whilst also enhancing the yield marginally. Inclusion of the IGBs will raise the index’s yield by 33bp (GBI-EM Global) and duration by 0.19y (effectively to 5.3y) 

Macro implications

Regulatory and tax hurdles saw the authorities bypass the option to enable the settlement of the IGBs on the Euroclear platform. The latter is not a pre-requisite for the index inclusion. Nonetheless, remaining outside the Euroclear would require interested foreign investors to register directly before investing. We reckon that the inclusion window has been set at ten months to allow for these processes.

The inclusion will help ease constraints and diversify financing of the country’s fiscal and current account imbalances. In the decade to FY23, net borrowing has financed an average ~70% of the central government’s fiscal deficit (see chart), majority of which are held by the domestic commercial banks, followed by real money investors like insurance companies. Overall foreign portfolio investors’ (FPI) ownership of total outstanding bonds has been less than 2% in the last two years. Under the FAR securities, IGBs are currently under-owned, with FPIs holdings at about 3%, which is expected to rise to nearly 10% in the 3-4 quarters hence. A pick-up here would act as an additional source of financing for the INR government bonds, helping with the supply-demand dynamics.

Higher participation by ‘stickier’ passive investors will also help the overall balance of payments position, as foreigners remained net sellers on the portfolio front (equity and debt) in the last two years (FY24 math likely to benefit from strong equity inflows). Post this inclusion, passive flows of $25-30bn are expected to be drawn in as the weightage increases, besides incremental flows from actively managed funds in the run-up. Addition to other bond indices – namely FTSE EM and Bloomberg Barclays – can potentially push up the total to $45-$50bn.

Subsequent second-order benefits are also notable. Corporates are expected to benefit as the yield curve could shift lower, reducing the cost of financing. Non-bank financial firms particularly have been active in the domestic corporate bond markets. At the same time, the pressure on the commercial banks to absorb a majority of the government’s borrowings will also be lower, especially as the investments under the statutory window are higher than required at this juncture. Scope for the strong rupee appreciate on the back of these anticipated inflows is low, as the central bank would opt to absorb the incremental flows towards restoring the foreign reserve balance, in turn leaving the currency range bound.

Broader risk-appetite also matters

The assumption of strong inflows also hinges on the global environment, broader risk perception towards the emerging markets basket and country-specific concerns. Additionally, strength of the public finances and debt levels will also come under additional scrutiny. A case in point is China. China’s government bonds were included in the Bloomberg Global Aggregate Bond index (8% weight) and JP Morgan GBI-EM index (10% weight) by 2020, with the FTSE World Government Bond index to complete its process by September 2024. Local debt markets likely drew in an estimated $180bn inflows. While this allowed the Chinese Government Bonds (CGBs) to draw inflows, the turn in the trajectory – slowing growth dynamic, because of cyclical and structural drivers, weakening yuan and an accommodative policy bias to support recovery have resulted in portfolio outflows (see chart). 


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