Foreign Portfolio Investors (FPIs) have responded positively to the inclusion of Indian government bonds in the JP Morgan index. A report by State Bank of India reveals that the aggregate holding of FPIs has increased significantly since June 2024, and even more so since the announcement of bond inclusion by JPMorgan Chase & Co in October 2023. The report anticipates that the index inclusion of Indian bonds will attract around USD 2 billion in investment over the next 9 months. This is expected to boost demand for government papers, leading to lower yields and a greater impact on short-end yields.
Currently, 38 securities under the Fully Accessible Route (FAR) are eligible for inclusion in the JP Morgan Index, with only 4.5 per cent of the Rs 37 trillion market utilized. This signifies significant headroom available for foreign investment post-inclusion in the indices. The substantial foreign investment expected to follow the index inclusion will enhance the depth of the government bond market and support system liquidity. FPI inflows are also projected to support liquidity and put downward pressure on yield. However, the report suggests that there may not be a major change in the rupee-dollar exchange rate despite these developments.
For fiscal year 2025, the report predicts a current account deficit of USD 36 billion, 0.9 per cent of GDP, with exports of goods around USD 455 billion and imports at USD 708 billion. Services exports are expected to grow to USD 171 billion, and net FDI is projected to recover to around USD 30 billion. FII inflows, which have amounted to USD 3.5 billion so far this fiscal year, are expected to reach around USD 25 billion, supported by debt inflows following bond inclusion. The report emphasizes a cash crunch in the market and highlights how the Just-In-Time (JIT) mechanism has caused liquidity deficits, but increased liquidity due to FPI inflows is expected to alleviate this issue.
Since June 28, 2024, JP Morgan and Chase have included Indian government bonds in their Emerging Market (GBI-EM), potentially attracting USD 20-25 billion in inflows into the Indian bond market. Despite this inclusion, India’s index-eligible bonds have already drawn in USD 10 billion since the announcement in September the previous year. The report points out the significant role played by the RBI in managing liquidity through various operations, with average liquidity supply through variable rate repo auctions standing at Rs 1.3 lakh crore in fiscal year 2025. The report also warns of potential instability in the Indian financial system due to global events causing money outflows from the country.
