10-Year G-Sec Spreads, FPI Debt Investments and the Emerging Trends in India

In the intricate dance of global financial markets, the 10-year Government Securities (G-Sec) spreads between the United States and India have emerged as a key metric, guiding investors and shaping the landscape of Foreign Portfolio Investor (FPI) debt investments. A notable trend has surfaced over the past two years, challenging conventional wisdom and inviting a closer examination of the complex interplay between G-Sec spreads and FPI behaviour. 

Analysing the Data 

A deep dive into the data spanning from January 2013 to November 2023 reveals a fascinating narrative. Amidst fluctuating G-Sec spreads, FPI debt investments in India have exhibited a resilient trajectory. Notably, a pattern has emerged wherein decreasing G-Sec spreads coincide with an upswing in FPI debt investments. 

In recent years, the 10-year G-Sec spread between the USA and India has narrowed significantly. As of November 13, 2023, the spread stands at 270 basis points (bps). 

The US Federal Reserve (Fed) has been raising interest rates aggressively in an effort to combat inflation. This has led to a rise in US Treasury yields. 

The Reserve Bank of India (RBI) has been more cautious about raising interest rates, given the concerns about economic growth. This has led to a relatively slower rise in Indian G-Sec yields.
Source- Investing.com.

Over the past two years, a peculiar trend has emerged. Contrary to historical norms, as the 10-year G-Sec spreads between the U.S. and India have narrowed, FPI debt investments in India have experienced a pronounced surge. To unravel this enigma, a nuanced analysis is warranted. 

• Global Hunt for Yield: In an era marked by persistent low interest rates globally, investors are engaged in an unyielding quest for higher returns. India’s debt market emerges as an attractive proposition, offering relatively higher yields compared to other low-yielding alternatives. 
• Evolving Risk Perception: The diminishing G-Sec spreads may indicate a decreasing risk perception regarding India’s debt market. Structural reforms, economic resilience, and proactive policy measures have collectively contributed to altering the risk landscape. Investors, recognizing India’s stability, are recalibrating their risk tolerance, leading to increased FPI debt investments. 
• Currency Dynamics: Stable exchange rates between the Indian Rupee and the U.S. Dollar play a pivotal role in attracting FPIs. The reduction in currency risk associated with Indian debt enhances its appeal, especially amidst global exchange rate volatility. 
• Policy Measures and Economic Fundamentals: The Indian government’s strategic policy initiatives, including the easing of investment restrictions and liquidity enhancement in the debt market, have fostered a more investor-friendly environment. Coupled with robust economic fundamentals, these measures contribute to the attractiveness of Indian debt despite narrowing G-Sec spreads. 
• India in EMBI:  JP Morgan’s announcement on September 22, 2023, revealed the inclusion of India in its Emerging Market Bond Index (EMBI) Global Diversified and EMBI Global indices, effective from early to mid-2024. This move is expected to simplify foreign investment in Indian bonds and attract more global funds. JP Morgan plans to gradually increase the weight of Indian bonds in its index, reaching 10% by June 2024.  

What’s Next 

• India’s growing economy (7.8% GDP growth rate) and financial market reforms have made Indian bonds more attractive to foreign investors.  
• The RBI has made it easier for foreign investors to buy Indian bonds, which is expected to bring more foreign money into India.  
• This could benefit the Indian economy in a number of ways, such as making the rupee stronger and lowering borrowing costs for businesses and the government.  

However, increased foreign flows will also make the bond and currency markets more volatile and could push the government and central bank to intervene more actively. In navigating this complex terrain, a keen awareness of global economic shifts becomes paramount for investors seeking to decode the intricacies of contemporary financial markets.  

Disclaimer: This blog has been written exclusively for educational purposes. The securities mentioned are only examples and not recommendations. It is based on several secondary sources on the internet and is subject to changes. Please consult an expert before making related decisions.