FIIs search for returns boosts Indian debt

Written by Aparna Iyer | Mumbai | Updated: Dec 4 2012, 07:00am hrs
Foreign institutional investors (FII) seldom invest in an economy with a huge fiscal and current account deficits, weak economic growth and an even weaker investment climate.

But foreign investors have poured in over $25 billion into Indian markets in 2012 so far, a level similar to the pre-Lehman boom period and most bankers expect the inflows to sustain in the coming months as well. While equity continues to dominate investment, the Indian bond market is fast catching up.

Bankers said that the relatively high yield and return that Indian bonds offer against other emerging countries lures FIIs here. The yield on government bonds across tenures are currently around 8-8.25%, while for corporate bonds, they are higher at 8.5-9.0%. Over the last six months, government bond yields have remained firm around 8%, prompting foreign investors to increase investment.

Sovereign bonds of the US offer anywhere between 1.5% and 2.50% yield, while German bunds offer a measly 1.5-2.0%. Among the BRICS nations, baring Brazil, bonds of all countries offer a yield below that of Indian debt. Brazilian bonds fetch a yield of around 9%. Unlike equities, outstanding FII investment in bonds is subject to an overall limit of $65 billion, now raised to $75 billion. Within the limit, sub-limits with respect to type of instruments, investors and tenure restrictions have been mandated.

Out of the $65 billion, around $52 billion is allocated to FIIs through monthly auctions by sebi wherein they pay a premium to acquire investment limits. FIIs have bid aggressively at these auctions over the last four months, and even for bonds that have restrictions on tenure and require investments to be locked in for a period. FIIs have bought limits and even paid high premiums for them. For instance, on November 20, Sebi had auctioned investment limits worth $1.90 billion against which it received bids worth $2.76 billion.

As on November 15, FIIs have exhausted nearly 95% of the investment limit in government and corporate bonds that do not have tenure restrictions.

Even for government and corporate paper that are subject to tenure restrictions, FIIs have lapped up nearly 60% of the available limits.

Besides these limits, qualified foreign investors can invest in schemes of mutual funds that have infrastructure bonds as the underlying asset subject to a limit of $3 billion.

On Friday, the government hiked the overall FII investment limit on debt to $75 billion from $65 billion. The hiked limit, $5 billion in government and corporate bonds each, will be earmarked for sovereign funds, pension funds, insurance companies and foreign central banks.