FPIs sold on India may get to invest more in government securities

MUMBAI: The ceiling for foreign portfolio investors (FPIs) in government bonds may be increased to develop the market and attract a wider range of participation. The limit may be redefined in rupee terms and could be a moving one, depending on market size.

“The RBI is talking to the government about a medium-term framework for FPI limits in debt securities,” Governor Raghuram Rajan said. This will include a target for the proportion of the bond market that will be constituted by FPIs and changes in limits every six months, he said.

“The overall goal of this medium-term framework will be to enlist FPIs in market development within prudential limits that we set, even as they are attracted by the rates available in Indian bonds,” Rajan said.

Apart from specifying limits in rupees so that they do not vary with exchange-rate fluctuations, the framework will create space for participation by a wider range of investors including pension funds, sovereign wealth funds, those coming through international central security depositories such as Euroclear and Clearstream, said Rajan. At present, FPIs can invest up to $30 billion (Rs 1.9 lakh crore) in government securities and another $51 billion (Rs 3.2 lakh crore) in corporate bonds.

“Yields on 10-year government securities may fall from 7.83% to 7.65% when the denomination is changed to rupee,” said NS Venkatesh, head of treasury at IDBI Bank. “Limits may go up by $3-5 billion.”

The spread between the US 10-year Treasury and Indian benchmark 10-year government securities is around 5.68% at present. The 10-year G-Sec is trading at 7.83%, while the US Treasury is at 2.15%.

The increase in foreign ownership, however, also depends on further fiscal consolidation and external developments.

“Once the framework is decided, we will wait for suitable market conditions, including possible greater certainty in Federal Reserve actions and appropriate liquidity conditions in Indian markets before making a public announcement,” Rajan said.

“While the indication that FPIs’ debt quota may be raised is positive for gilts, other related factors like growth/inflation dynamics, USD interest rates and changes to the statutory liquidity ratio also factor heavily,” DBS Group said. “We suspect that the full benefits (tighter spreads relative to US Treasuries) of greater foreign ownership liberalisation are likely to materialise only over the longer term.”