On the face of it, foreign institutional investors (FII) put in a mere $3.4 billion into Indian bonds so far this year. That is lower than $5 billion inflows in the pre-pandemic year of 2019. Since the interest rate cycle has turned with most central banks including the Reserve Bank of India (RBI) rolling back of extra ordinary measures, interest in bonds was expected to wane.
After all, when interest rates climb bond yields follow which results in mark-to-market losses on investments. Bond yields move inversely to bond prices.
But look closely and Indian bonds have actually gotten more money out of foreign investors in comparison with the glamorous equity cousin. That too in a year rife with blockbuster initial public offerings of stocks from start-ups. These IPOs saw unprecedented interest from investors. But on the whole, equities got $3.8 billion worth of investments so far. The inflows into stocks in the previous years were larger.
Bonds, on the other hand, received $4.5 billion through the voluntary retention route (VRR) thrown open by the Reserve Bank of India (RBI) in 2020. VRR investments have to be held for a minimum of three years by investors and are counted outside the general debt limit prescribed for FIIs. Investors would also have to retain a certain percentage of their investments in India, the rules prescribe. Bond traders point out that the hope of Indian bonds getting included in global bond indices had attracted more stable investments. The government had earnestly begun pitching for inclusion of Indian government bonds in global indices. This inclusion is expected to bring in stable dollars into bonds as long-term funds have earmarked investment allocations into global bond indices and Indian bonds could benefit from it.
Another factor that has helped Indian bonds is the fact that bonds in advanced economies have given negative real returns as bond yields plummeted. India’s bond yield curve continues to generate a positive real return in the most liquid tenures.
It remains to be seen whether Indian bonds would continue to attract stable funds in 2022 as well. As incremental additions to global liquidity reduce with the US Federal Reserve cutting back on easing, investors may become choosy when it comes to putting money in emerging market debt. Note that this year, foreign investors pulled out $1.3 billion through the normal open route.The inclusion of Indian bonds in global bond indices has become that much more crucial now.