By taking the mutual fund route, investors can take exposure to gilts with small amounts.
Over a decade or more, returns from these funds tend to be sound.
From June 28, JP Morgan began including 27 Indian government securities (G-Sec) in its GBI-EM global index. This move will prompt international fund managers of passive funds to purchase these bonds.
In the wake of this development, investors may consider investing in gilt funds, which invest in G-Sec.
Yields may decline
This is a positive development for the G-Sec market.
"It could create $25 billion to $30 billion of additional demand for Indian G-Sec in this financial year," says Akhil Mittal, senior fund manager-fixed income, Tata Asset Management.
In the Interim Budget, the government had projected its net borrowing for FY25 at Rs 11.75 trillion.
"Depending on the quantum of purchases by foreign portfolio investors (FPIs), an estimated 15 to 20 per cent of this amount could come from them during FY25," says Joydeep Sen, corporate trainer (debt markets) and author.
Longer maturity G-Sec will be included in the JP Morgan index.
"This development will impact the longer end of the yield curve," says Ravi Saraogi, co-founder, Samasthiti Advisors. Mittal says it should lead to some softening of yields.
Be prepared for volatility
FPI flows are hot money.
"At present, the Indian macroeconomic situation is positive on most counts. But if the Indian economy witnesses a slowdown, or interest rates in other geographies rise, a large outflow could put pressure on yields," says Saraogi.
Some experts don't think this is a major cause for worry.
"Currently, FPI holding in G-Secs is 2-odd per cent. Even after additional purchases, it could rise to 4 to 5 per cent.
"In the event of a sudden outflow, there could be some near-term impact, but it won't cause a big dent in the market," says Sen.
Rate cuts could create alpha
Inflation is inching towards the Monetary Policy Committee's target and the fiscal deficit is under control.
"Given these macroeconomic developments, the Reserve Bank of India should be able to reduce the repo rate once inflation comes closer to target in the next 6 to 12 months, creating alpha in gilt funds," says Mittal.
Food is the biggest contributor to the consumer price index (CPI)-based inflation currently.
"A normal monsoon and good agriculture production could lead to the food component coming within range, and softening of CPI-based inflation," says Sen.
Rate cuts, expected to begin in the October-December or January-March quarter, are expected to be 50 to 75 basis points cumulatively.
Food inflation could play spoilsport
After the election results, the government could spend more to support agriculture and provide jobs.
"Government spending could prevent inflation from softening. With GDP growth expected to remain strong, there may not be much scope for interest rates to fall," says Saraogi.
A poor monsoon, persistent food inflation, or geopolitical risks could delay rate cuts.
Should you invest?
Gilt funds don't carry credit risk. By taking the mutual fund route, investors can take exposure to gilts with small amounts. Over a decade or more, returns from these funds tend to be sound.
However, they tend to be volatile due to their relatively high duration.
"Investors with a horizon of at least 10 years, who can digest the interim volatility, may invest in them," says Sen.
Saraogi warns against using them to take duration bets. "Getting duration calls right is very difficult," he says.
He suggests investing only if the gilt fund's average maturity matches the investor's horizon.
Disclaimer: This article is meant for information purposes only. This article and information do not constitute a distribution, an endorsement, an investment advice, an offer to buy or sell or the solicitation of an offer to buy or sell any securities/schemes or any other financial products/investment products mentioned in this article to influence the opinion or behaviour of the investors/recipients.
Any use of the information/any investment and investment related decisions of the investors/recipients are at their sole discretion and risk. Any advice herein is made on a general basis and does not take into account the specific investment objectives of the specific person or group of persons. Opinions expressed herein are subject to change without notice.
Feature Presentation: Ashish Narsale/Rediff.com
