India’s inclusion in global indices faces further delays | india, jp morgan, bond index, emerging markets, gbiem, government securities, sujan hajra, vivek sharma

The long-awaited inclusion of Indian debt in the JP Morgan Government Bond Index Emerging Markets (GBI-EM) is further delayed.

Originally slated to be announced in September, it’s unlikely to be confirmed until the new year, and it’s still unclear how the capital gains tax and settlement issues will be resolved, experts say . FinanceAsia.

“Initial concerns included partial capital account convertibility of the rupee and limits on foreign ownership of Indian debt. China does not have a fully convertible currency, so it is not a necessary condition for inclusion, and foreign ownership limits on Indian government debt have now been removed for some bonds, so the real problem remains the capital gains tax on Indian bonds,” Sujan explained. Hajra, chief economist and co-head of research at local financial services firm, Anand Rathi.

Investors in Indian securities are subject to long-term and short-term capital gains tax, which can reach 30% if the securities are sold within a year. That hasn’t stopped foreigners from investing in stocks, Hajra said, but those behind major bond settlement platforms such as Euroclear are insisting that India scrap tax on capital gains to better align with international policies and practices.

A tax exemption would be needed to allow settlement in the market via Euroclear, but India has so far been unwilling to make any concessions.

“India’s view is that they levy this tax on all investments, even [those made by] domestic investors, so they cannot give special treatment to foreign investors. This is why the inclusion [in the index] remains delayed,” Hajra said.

At the same time, international settlement platforms do not want to deal with the additional accounting burdens that capital gains tax currently entails, he explained.

While India is keen on having access to this new pool of capital, it does not want to send the wrong signal to domestic investors by offering concessions to offshore investors, recalled Vivek Sharma, head of the International Clients group at Edelweiss Wealth Management.

“Allowing a waiver would imply that foreign investors are much more sought after than domestic investors, who have supported the market for years,” he said. FA.

India could instead push for settlement on local platforms – as is the case with Chinese bonds – but for foreign investors accustomed to making investments on international platforms, this could pose operational problems, explained Sharma.

Open capital markets

India’s inclusion in the GBI-EM index was first proposed half a decade ago, but fears that allowing foreign investment in its debt market would leave it vulnerable to volatility and speculative currency trading meant that it maintained significant debt restrictions.

In contrast, the liberalization of its stock markets began in the 1990s.

“Today, India’s foreign debt portfolio is less than 2% of its $1 trillion public market capitalization, while 55% of the stock float market capitalization is controlled by foreigners,” Hajra said. .

East Asia’s experiences during the financial crisis of the 1990s further heightened India’s aversion to large flows of debt, Hajra said. But over time, with India becoming more stable in terms of external financing – its foreign exchange reserves are one of the largest in the world – it has since opened up the possibility for foreign investors to gain exposure to its debt.

The recent experience of Covid-19 and the clear benefits brought by investors diversifying into fixed income also helped the government to accept the idea, said Sharma, who added that the government now wants to internationalize its currency.

In April 2020, India removed restrictions on foreign ownership of certain bonds under what it called the “fully accessible route” (FAR), allowing Indian companies to raise rupee resources abroad. abroad, through Masala bonds (bonds issued outside India but denominated in Indian rupees).

FAR bonds are most likely to become eligible for inclusion in the index in the near term.

“Additionally, foreign investors are more open to the inclusion of Indian debt in global indices, so there is also a demand driver,” Sharma added.

Impact of inclusion

Once included in the GBI-EM gauge, Hajra predicts that India could attract $25-30 billion inflows, based on the approximate value of the $250 billion funds that track the index and its expected weighting between 9 and 12%.

Sharma noted that the maximum weighting currently held by markets in the index is 10% – as is the case for China and Indonesia – but he said some estimates suggest India could attract 30 at $40 billion.

Going by China’s experience of the GBI-EM index in 2020, there might be some initial “euphoria” after its inclusion, Hajra said.

“In its first year of inclusion, China received nearly $200 billion in portfolio inflows from nonresidents, well beyond its weight [in the indices]. Over the past 12 months, that was around $20 billion, which is more in line with its index values,” he said.

Indian officials are also reportedly in talks regarding inclusion in the Bloomberg-Barclays benchmark.

Wider implications

The wider benefits of India’s inclusion in the indices include the development of greater Indian debt market depth and better access to capital for Indian companies.

“Inclusion in this type of index allows for long-term allocation inflows into the debt market, which can help reduce interest rates in India and ease the cost of borrowing for borrowers. locals,” Sharma said.

Moreover, access to a new pool of capital means that the Indian government could relax the high legal investment requirements it imposes on banks and insurance companies to buy government securities, in order to fund its high levels of government borrowing, Hajra added. India announced plans to borrow a record ₹14.95 trillion (US$200 billion) in the current financial year in its latest Union budget.

“Once you create an alternative source of demand for government securities, you don’t need to create a captive market, so banks and insurance companies will have more choice in terms of deploying their funds,” he explained.

Inclusion by 2023

Yields fell in August and September as investors increased their purchases of FAR bonds in anticipation of their inclusion in the GBI-EM index. According to Bloomberg, yields on 10-year rupee bonds fell about 30 basis points, to 7.33%, in late September, at a time when yields in the United States and elsewhere began to rise.

It’s unclear exactly how the government will resolve the tax and settlement issue, but it’s likely that the parties involved will find “common ground” in order to push through India’s inclusion by the start. of 2023, suggested Sharma.

Further delay could prompt investors to sell their recent purchases, which could lead to higher yields.

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