(Edit: After JP Morganโs decision, now ๐๐ฅ๐จ๐จ๐ฆ๐๐๐ซ๐ ๐ก๐๐ฌ ๐ฉ๐ซ๐จ๐ฉ๐จ๐ฌ๐๐ ๐ญ๐จ ๐ข๐ง๐๐ฅ๐ฎ๐๐ ๐๐ง๐๐ข๐๐ง ๐๐จ๐ง๐๐ฌ ๐ข๐ง '๐๐ฆ๐๐ซ๐ ๐ข๐ง๐ ๐๐๐ซ๐ค๐๐ญ ๐๐จ๐๐๐ฅ ๐๐ฎ๐ซ๐ซ๐๐ง๐๐ฒ ๐๐ง๐๐๐ฑ'. The amount of expected inflow is small around $2-3Bn due to inclusion, but the significance of this inclusion is high. For official Bloomberg report click here(8th Jan,2024). Up next, all eyes on FTSE with their meeting scheduled to happen in March 2024 to discuss changes in their bond index)
26 September, 2023: Last week marked a pivotal moment in both the money and currency markets, carrying significant implications. The catalyst behind this development is the much talked about news on social media which is JP Morgan's decision to incorporate Indian bonds into their 'Emerging Market Government Bond Index'. To put it simply, major global banks and institutions curate indices, which are essentially bundles of stocks, bonds, or other asset categories that hold substantial influence and are closely monitored. Among these, institutions like JP Morgan, Morgan Stanley, and others, as well as respected names like IHS Markets and the Financial Times (FTSE), command great attention on a global scale.
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Turning our attention to JP Morgan's Emerging Market Bond Index, this index comprises government bonds issued by emerging economies, such as China, Indonesia, Malaysia, Egypt, and more. These bonds are grouped together in the index, with each country assigned a specific weight. A staggering $230 billion in global passive funds are invested according to the weightings determined by JP Morgan's index.
Interestingly, despite India holding the position of the world's 5th largest economy and the 2nd largest among emerging economies, it had been conspicuously absent from this influential index. Reports in the media had previously hinted at an ongoing dispute between the Indian government and the overseers of such indices, particularly concerning taxation issues related to the buying and selling of Indian bonds over the past several years.
However, in a significant development, JP Morgan has now decided to include India in this index. The process will commence with a 1% allocation from the middle of the next year, eventually ramping up to 10% within a year of inclusion. This move is anticipated to channel investment flows of $20 to $30 billion into Indian government bonds. Furthermore, it is expected to encourage other global emerging market bond index managers, such as FTSE and Bloomberg-Barclays, to incorporate India into their indices as well, potentially ushering in an additional $20 to $30 billion into our bond market.
For a more in-depth analysis, I recommend checking out the insights shared by the esteemed economics news editor, Latha Venkatesh, in the video linked below:
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How is the impact different for the Currency & Money Market?
In terms of the currency market, we can anticipate a short to medium-term impact of approximately $25 billion, and this figure could potentially rise to approximately $50 billion if FTSE and BBI decide to follow suit and include India in their indices. To put this into perspective, India's total foreign exchange reserves, managed by the RBI, currently stand at around $600 billion. These reserves serve as a buffer to counteract future currency fluctuations and provide reassurance to investors. With the expected influx of investments, we could potentially boost our reserves by over 10% in the next 1.5 years, as numerous active global funds may also start investing in Indian bonds.
Turning our attention to the money market, it's not solely about the amount of money but rather the diversity within the bond purchasing landscape. This development is expected to significantly enhance the diversity of investors, with more foreign investors entering the market. This, in turn, will contribute to improved price discovery and reduced volatility over time. It's a widely acknowledged fact that, compared to the US financial markets, Indian markets have been lacking in various aspects. However, this difference is poised to narrow down as a result of these changes in the landscape.
Another noteworthy trend that has been narrowing recently is the yield spread between the 10-year Indian bond yield and the 10-year US bond yield. As illustrated in the graph below, this spread has now contracted to 2.63%, or 263 basis points. These levels are reminiscent of what was observed in 2008-2009. Essentially, the smaller this difference becomes, the less implied premium international investors are required to invest in Indian emerging market bonds compared to investing in US developed market bonds. This trend reflects a potential shift in investor sentiment and a growing attractiveness of Indian bonds in the global financial landscape.
Where we are investing these days?
After recently going overweight on DLF, check the last blog here, I have been looking to go overweight on some medium to long-term sustainable themes that shall benefit the most from the cost of funds going down in India over the coming years. Clearly, companies with debt-heavy business models & financing companies can benefit the most as their cost of funds would go down over time. The 2 companies that I was looking to invest more in, and now can have a tailwind due to the bond inclusion are: Bajaj Finance and Tata Power.
Bajaj Finance: I've maintained a positive outlook on the personal finance space in which Bajaj Finance operates for several months now, and I've covered this topic extensively in my previous writings. One of the key factors that fueled my optimism about IDFC First Bank in the past was the promising prospects of retail credit demand. Bajaj Finance had a significant competitor in the money market in the form of HDFC Ltd, which has since merged into HDFC Bank. With HDFC's exit, it became easier for Bajaj Finance to raise funds, and over time, the interest rates at which they issue bonds in the market are expected to decrease further as foreign investors begin to invest in Indian bonds.
In the short term, I anticipate robust demand, particularly with the onset of the festive season. There have been reports suggesting that the company is considering raising funds through a Qualified Institutional Placement (QIP). I'm eagerly looking forward to seeing the caliber of investors participating in the QIP and the company's quarterly performance updates, which are typically disclosed at the end of each quarter. These developments should provide valuable insights into the company's growth trajectory and market dynamics.
Tata Power: I've been noticing a growing number of news articles discussing the possibility of solar panel manufacturers being categorized under the 'priority sector' for lending by banks, as directed by the RBI. These developments are tied to the increasing importance of corporations adopting green energy practices and a decline in the import of solar equipment from China. These trends are part of longer-term positive stories that are currently unfolding, and Tata Power appears to be making a substantial commitment to this sector.
Tata Power, like many other power companies, operates with a debt-heavy business model. They currently hold approximately Rs 50,000 crores in debt against a market capitalization of approximately Rs 82,000 crores. As a result, they stand to benefit from the potential reduction in the cost of funds in the debt market due to this inclusion, in the coming future. This could have a positive impact on their financial outlook and business operations. I do plan to write a dedicated blog about it in the future.
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Disclaimers-ย
I am not a SEBI registered advisor; personal investment/interest in the shares exists for the company mentioned above; this isnโt investment advice but my personal thought process; DYOR (do your own research) is recommended; Investing & trading are subject to market risk; the Decision maker is responsible for any outcome.
