Foreign investors have sold 82.1 billion rupees ($973 million) worth of Indian government bonds tied to the JPMorgan index so far in November, data from a clearing house revealed on Thursday.

This selling spree comes amidst a global economic backdrop dominated by rising U.S. bond yields and a strengthening dollar, creating headwinds for emerging markets. Traders and analysts predict the trend may persist until volatility in global financial markets eases.

U.S. Yields and Dollar Strength Drive Outflows

The 10-year U.S. Treasury yield, which serves as a benchmark for global borrowing costs, has climbed nearly 20 basis points since the re-election of Donald Trump. It stood at around 4.50% on Thursday, signaling a repricing of expectations around Federal Reserve interest rate policies.

“Foreign inflows will likely wait for U.S. yields and the dollar index to stabilize before reverting to their pre-October pace,” said Nitin Agarwal, head of trading at ANZ India.

The rising dollar index, up 3% since Trump’s victory, has pressured emerging market economies, including India, as investors redirect funds toward the relatively safer and higher-yielding U.S. assets.

Edward Ng, senior portfolio manager for Asian fixed income at Nikko Asset Management, noted that the narrowing spread between Indian and U.S. 10-year bond yields has further exacerbated outflows. The yield differential, currently at an 18-year low, makes Indian debt less attractive to foreign investors.

Impact of Index Inclusion on Flows

Despite the recent outflows, India has been a significant beneficiary of foreign investments in its debt markets throughout 2024. Following its inclusion in the JPMorgan Government Bond Index–Emerging Markets (GBI-EM) on June 28, foreigners bought a staggering 1.18 trillion rupees ($14 billion) worth of bonds in the first 10 months of the year.

India’s growing prominence in global bond indices is set to expand further. Bloomberg Index Services and FTSE Russell will include Indian debt in their respective emerging market bond indices in January and September 2025. Analysts believe these developments could pave the way for long-term capital inflows, bolstering India’s debt market liquidity and enhancing its global financial integration.

However, some caution remains. “The various index inclusions still warrant more inflows; however, investors might choose to run a bit underweight India in the short term,” Agarwal added.

Broader Economic Implications

The selling of Indian government bonds by foreign investors reflects broader concerns about the impact of rising U.S. yields and the Federal Reserve’s monetary stance on emerging markets. While the Fed is widely expected to cut rates in December, expectations for further easing in 2025 have been scaled back significantly.

The anticipated cuts have reduced from four to just two in 2025, reflecting a more hawkish pivot by the Federal Reserve. This recalibration has driven up real yields in the U.S., prompting capital rotation out of emerging markets.

“Funds may see rotation out of emerging markets into the United States if U.S. real yields increase further,” Agarwal explained.

Resilience in Indian Yields

Indian bond yields, on the other hand, have remained relatively stable, with minimal changes since Trump’s re-election. The Reserve Bank of India’s cautious approach to interest rates has supported domestic debt markets.

Still, the current low spread between Indian and U.S. yields poses a challenge. “We expect the spread between U.S. and Indian bond yields to stay low as U.S. yields get re-priced higher post-election, while India yields remain relatively stable,” Ng said.

This dynamic will likely persist in the near term, with volatility in U.S. rates being a key determinant of the India-U.S. yield spread.

Opportunities Amid Challenges

While outflows in November underscore immediate challenges, India’s inclusion in global indices and a growing appetite for emerging market debt provide a more optimistic medium-term outlook. The government’s continued efforts to deepen its bond market, including regulatory reforms and initiatives to attract foreign investors, are expected to pay dividends.

Furthermore, India’s economic fundamentals remain robust. With GDP growth projected at 6.5% for FY2024-25 and inflation showing signs of moderation, the country remains a compelling destination for long-term investors.

Conclusion

The near $1 billion sell-off by foreign investors in November reflects broader global trends of risk aversion and capital reallocation. However, India’s inclusion in prestigious bond indices and stable domestic economic conditions position it well to weather these headwinds.

As markets adjust to new post-election realities in the U.S., foreign investor sentiment toward India may recover, bolstered by structural reforms and favorable growth prospects. For now, all eyes remain on global yield movements and the Federal Reserve’s next steps.

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Photo source: Google

By: Montel Kamau

Serrari Financial Analyst

15th November, 2024