India getting incorporated in EMLC GBI is a timely shot in the arm

Bloomberg is all set to add India to its EM Local Currency Government bond index (EMLC GBI) from end-January 2025 with the total weight of 10 per cent - staggered over 10 months. Similar to the JPM GBI-EM, only Fully Accessible Route (FAR) securities will be added to the index. It assumes significance as India’s bond market is the third-largest after China among Ems. That said, unlike JPM GBI-EM, which is tracking an estimated AUM of $230-240 bn, the BBG EMLC GBI is a much smaller index, tracking an estimated AUM of $10-20 bn, implying that passive flows into India could be between $ one and two bn only. However, inclusion in the massive BBG Global aggregate Index (GAI - est. tracked AUM $2tn+) may get delayed to 2025 once they test waters with this smaller index. This meagre passive flow of $1-2 bn contrasts with possible passive inflows of $23 bn through JPM GBI-EM inclusion as a one-off stock adjustment over the scale-in period from end-June. However, active FPI flows owing to the announcement effect have already been pouring in significantly since last September.

Emkay Global notes that net FPI debt inflows in FYTD24 have been a huge $13 bn versus outflows of $1.1 bn in FY23! Foreign ownership of FAR securities has shot up to 4.4 per cent from 3 per cent as of September-end. Going ahead, the investable universe via FAR for FPIs will increase over the years. Interestingly, merely two years ago, most of these major global bond indices had highlighted major impediments in India’s inclusion on account of factors like capital controls, FPI capital gains taxes, non-adherence to Euro-clear requirements, restricted market access and operational issues. However, the recent progress on resolving operational issues, such as posting margin requirements and extended settlement times, have been instrumental in India securing these GBI inclusions. There were also media reports that the Union Government is in talks with BBG and other platforms to provide an interface for FPI Gsec trading, which also will improve settlements of Gsecs.

Prima facie, the macro impact of GBI inclusions is positive overall. Structurally, all of this will lower India’s risk premia/cost of funding across curves, incl. corp. bonds, enhance the liquidity and ownership base of G-Secs and help India finance its fiscal and CAD that could trigger positive externalities. We have already seen India Gsec secularly trending down since September, which is now hovering near 7.05 per cent. This has been helped by FPI demand via the demonstration effect, while domestic Gsec demand by players across segments has been healthy and is likely to remain so in FY25 as well, especially with players like insurance and pension structurally seeing healthy growth in their AUMs. That said, the massive new foreign flows will also bring in the problem of plenty for the RBI as it manages impossible trinity of managing FX, new foreign flows and independent monetary policy back home.