Global Funds Buy Most Bonds in Six Months on Rate Outlook: India Credit

By Lilian Karunungan and Jeanette Rodrigues - Aug 1, 2011

International investors are boosting Indian debt holdings by the most since May as economists say the central bank is nearing the end of its rate increases.

Global funds bought $592 million more rupee bonds than they sold last month through July 28, raising ownership to a $21.3 billion, according to exchange data. Goldman Sachs Group Inc., which correctly forecast the Reserve Bank of India would lift borrowing costs by 150 basis points in 2010, said policy makers are done with raising rates this year after a 50-basis point increase to 8 percent last week. Nomura Holdings Inc., BNP Paribas SA and HSBC Holdings Plc predict one more rate addition.

Benchmark rates as low as zero percent in advanced economies have spurred foreign investors to raise holdings, with the rupee’s 1.5 percent advance in 2011 adding to the allure of the nation’s assets. The 8.43 percent yield on India’s 10-year notes is the highest among Asia’s biggest economies and almost three times the rate on similar-maturity U.S. Treasuries.

“Yields are at the higher end of the spectrum in terms of the rate cycle,” Gordon Rodrigues, a Hong Kong-based investment director at HSBC Global Asset Management who helps oversees $23 billion of Asian fixed-income assets, said in an interview on July 28. “And people are positive on the currency in the medium term.”

HSBC Global Asset bought rupee debt this year, he said.
‘Little Need’

The Reserve Bank has “little need” to raise borrowing costs further as Asia’s third-biggest economy slows and inflation softens by September, Goldman Sachs analysts Tushar Poddar and Vishal Vaibhaw wrote in a report after policy makers boosted the repurchase rate for a fifth time this year on July 26. Vaibhaw reiterated that stance when contacted on July 29.

Gross domestic product rose 7.8 percent in the three months ended March, the least in five quarters, according to official data. Food prices, which have a weighting of about 14 percent in the inflation basket, climbed 7.33 percent in the week ended July 16, compared with an increase of 7.58 percent in the previous five-day period, official data showed last week.

Wholesale prices, which the Reserve Bank uses to track inflation, rose 9.44 percent in June from a year earlier after having climbed 9.06 percent the previous month, according to official data. Price increases will soften to 7 percent by March 2012, according to the central bank.
Rupee Gains

“The Reserve Bank has hiked rates quite significantly, so inflation is not really much of a concern,” Zsolt Papp, Zurich- based head of fixed-income strategy at Union Bancaire Privee that oversees more than $1 billion in emerging-market fixed- income assets, said in a phone interview on July 28. Investors, including the Switzerland-based bank, have also been buying India’s bonds on “the expectation that in the long run, the rupee will appreciate,” he said.

The rupee advanced 1.2 percent in July, the biggest monthly gain since March, as the difference in yields between India’s 10-year government notes and similar-maturity U.S. Treasuries widened to the highest level this year. The currency advanced 0.2 percent to 44.1030 per dollar as of 10:24 a.m. in Mumbai today, according to data compiled by Bloomberg.

The yield spread was 562 basis points, compared with 461 on Dec. 31, 2010. The rate on India’s 7.8 percent notes due April 2021 dropped three basis points, or 0.03 percentage point, to 8.43 percent, according to the central bank’s trading system. Indian sovereign debt gained 2 percent this year, beating the 0.5 percent advance in Chinese bonds, according to an index compiled by Bank of America-Merrill Lynch.
Ownership Cap

Government caps on ownership of India’s bonds are a damper for foreign investors, according to Pictet Asset Management SA, a unit of Switzerland’s largest privately held bank for the wealthy that oversees $17.9 billion of emerging-market debt. Data on the website of Indonesia’s finance ministry show global funds hold $29.2 billion of rupiah debt, 37 percent more than their ownership of rupee notes comprising both government and corporate debt.

Indian Finance Minister Pranab Mukherjee doubled the limit on foreign holdings of corporate debt to $40 billion and left the cap on government notes unchanged at $10 billion while presenting the federal government’s budget on Feb. 28.

“India’s policy makers shouldn’t put more restraints on foreigners investing in rupee bonds,” Wee-Ming Ting, the Singapore-based head of Asian fixed-income at Pictet Asset Management, said in an interview on July 28. “Policy makers want to control the amount of inflows and they view bond buying as speculative inflows.”
Budget Deficit

Investors need to factor in the probability that India may not be able to meet its target of trimming the budget deficit to a four-year low of 4.6 percent in the 12 months ending March, according to Mumbai-based Yes Bank Ltd.

“Our view is that the budget deficit will be 5.5 percent,” Nirav Dalal, the head of debt capital markets at Yes Bank, said on July 29. “Any indication that the target will not be achieved may trigger losses.”

The cost of insuring the debt of government-owned State Bank of India, which some investors perceive as a proxy for the nation, against default, increased five basis points in July to 192 basis points, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.

Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

“There is a sense that inflation will come under control and there are also worries on the growth front, which will be positive for bonds,” Vivek Rajpal, a Mumbai-based fixed-income strategist at Nomura Holdings Inc., said in an interview on July 28. “I think the rush of money will continue because of the yield differential.”

To contact the reporters on this story: Lilian Karunungan in Singapore at lkarunungan@bloomberg.net; Jeanette Rodrigues in Mumbai at jrodrigues26@bloomberg.net

To contact the editor responsible for this story: James Regan at jregan19@bloomberg.net
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