Bond yield premium needs to widen further to attract FPIs
India's 10-year government bond yield differential with the US has recently surpassed 240 basis points. Market analysts suggest that this yield gap should exceed 300 basis points for attracting significant foreign investments. October saw foreign ...
A wider yield gap improves the return available on Indian bonds relative to US Treasuries.
Mumbai: The yield differential between India's 10-year benchmark government bond and the US 10-year treasury has lately widened to more than 240 basis points after Mint Road's first northbound rate action in nearly four years, but the gap should expand to at least 300 basis points for local debt to be attractive to foreign investors, experts said.
One basis point is a hundredth of a percentage point.
The differential between the two benchmarks was at 250 basis points last week, and since then narrowed modestly. Foreign investors' bond sales halved month on month to around ₹5,615 crore in October. Fund managers said the wider India-US yield differential was comfortable and manageable, suggesting that the heavy outflows seen in September may not be repeated if the spread remains at current levels.
"The US-India sovereign yields differential has definitely improved, but the spread needs to be more if India has to attract foreign debt flows. On a fully hedged basis the differential is not sufficient to attract significant inflows," said Gaurav Kapoor, chief economist, IndusInd Bank.
The US India deferential was around 180-190 basis points in September, when US yields rose to decadal highs. The differential currently stands at 225 basis points, with the US yield at 4.93% and the India yield at 7.18%. Yield difference needs to be wider and at least cover the hedging cost for overseas debt investors, market participants said. Hedging costs have increased right now, but the forward premiums on the currency are typically around 2.50%-2.75%, as they were in August-September. So, the yield difference should be more than that to make Indian debt attractive for overseas buyers, market participants said.
A wider yield gap improves the return available on Indian bonds relative to US Treasuries, but foreign investors' final returns also depend on the rupee and hedging costs, treasury heads said. The rupee gained about 1% against the dollar in October, posting its strongest monthly performance since February, as central bank measures to curb dollar demand and a softer greenback helped offset pressure from elevated oil prices and portfolio outflows.
"Debt had outflows because US rates were attractive and all the hot money flowed there. But outflows are not just related to the differential; currency stability also plays an important part," said Alok Singh, head of treasury, CSB Bank.
