Hot-Money Curbs Help Rupee Bonds Evade Brexit-Induced Volatility

  • India avoids volatility as foreign holdings below 5%: Aberdeen
  • ‘Domestic factors remain the primary drivers,’ Neuberger says

Indian bonds are providing investors a refuge from the volatility that’s gripped Asian markets as they assess the implications of Brexit.

Swings in rupee sovereign debt, which has among the region’s lowest foreign ownership due to limits on short-term investors, have narrowed since the U.K.’s June 23 vote to exit the European Union even as they got wilder in Indonesia and Malaysia. That’s giving confidence to funds including Neuberger Berman Group LLC and Aberdeen Asset Management Plc, lured by the highest yields among major regional markets.

Policy makers in Asia’s third-largest economy have been wary of allowing greater foreign ownership of domestic sovereign notes as they seek to prevent hot money from destabilizing the currency. Overseas investors hold around 4 percent of India’s government debt, compared with 39 percent in Indonesia, 35 percent in Malaysia, 14 percent in Korea and 11 percent in Thailand, according to HSBC Holdings Plc.

“With less than five percent of foreign investors in it, India’s bond market is still very domestic driven in an era of constant risk-on and risk-off on account of what the Fed wants to do, what will happen post Brexit,” said Leong Lin Jing, Singapore-based investment manager at Aberdeen Asset, which oversaw $421 billion as of March 31. “I won’t say there is no uncertainty but there is less uncertainty within India and it helps that the coupon offered by local bonds is very high.”

A gauge of 10-day historical volatility in Indian notes due in a decade has fallen to 3.29 percent from 3.32 percent when results of the referendum landed. A similar measure in Indonesia surged to 19.7 percent from 3.34 percent, while one for Malaysian bonds jumped to 15.5 percent from 3.28 percent, data compiled by Bloomberg show. That’s even as flows into emerging-market debt funds set a new weekly record for the period ended July 6, according to EPFR Global data.

India currently caps overseas holdings in sovereign notes at 2 trillion rupees ($29.8 billion). The nation last year stipulated it would raise the limit only in phases so as to allow foreign ownership of up to 5 percent of the total outstanding debt by March 2018. Also, central bank restrictions require that foreigners invest in securities with a minimum residual maturity of three years.

Hot Money

“That means you don’t get the hot-money flows,” said Gordon Rodrigues, the Hong Kong-based head of Asian rates and currencies at HSBC Global Asset Management. “India has learnt from the lessons that other players have had or from the problems they had from opening up their bond markets. It is opening up its market on its own terms, which I think is good. Doing it slowly and in an orderly fashion is one way of instilling confidence in investors for the long term.’’

The nation is “not in great hurry” to relax investment curbs “in a big way,” H.R. Khan, whose term as the Reserve Bank of India’s deputy governor for markets ended earlier this month, said in an interview. “We have limits on how much foreigners can acquire. That strategy has really paid off very well.”

While narrower swings have comforted investors, the 6.8 percent return on Indian sovereign debt this year has lagged peers in Indonesia, the Philippines and Thailand, indexes compiled by Bloomberg show. Rupee notes were the best performers among major regional markets in 2015 and 2014. Foreign holdings of the debt fell 54 billion rupees in the last two months as the benchmark 10-year yield was little changed.

Monsoon Rally

Even so, a pickup in monsoon rains is boosting investor sentiment by improving the outlook for inflation and interest rates. Ten-year bonds capped a third weekly gain on Friday, the longest stretch of wins since mid-April. The yield dropped 12 basis points in the period and was at 7.38 percent in Mumbai on Monday. That’s still the highest among major Asian markets and 600 basis points more than what similar-maturity Treasuries pay. The rupee was on course for its biggest advance in almost two weeks.

“Domestic factors remain the primary drivers of Indian bonds, thus resulting in a low correlation with other portfolio holdings,” said Prashant Singh, the Singapore-based lead portfolio manager for Asian emerging debt at Neuberger Berman, which manages $250 billion globally. “Coupled with relatively high yields and robust fundamentals, this low correlation adds to the attractiveness of Indian bonds.”

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