In November 2024 at 11:00 IST, an interesting trend emerged in India's bond market. The extra yield on India's 10-year bonds over similar maturity Treasuries witnessed a notable narrowing, reaching approximately 243 basis points on Monday. This development has significant implications for both domestic and international investors.

Unraveling the Dynamics of India's Bond Yield Spread

Overseas Investors and Bond Holdings

Over the past weeks, overseas investors have been reducing their holdings of Indian bonds at a rapid pace. Since at least June, this trend has been evident. According to data from the Clearing Corporation of India Ltd., global funds sold a net 49.6 billion rupees ($588 million) of the Fully Accessible Route bonds last week. This marks the biggest weekly outflow from these securities since they were included in JPMorgan Chase & Co.'s largest emerging-market bond index in June. Such a significant outflow indicates a change in sentiment among overseas investors towards Indian bonds.Moreover, foreign investors have offloaded a net 87.5 billion rupees of Indian debt this month. The prospect of a narrowing interest-rate differential between the US and India has played a crucial role in this. US Treasury yields have surged since Donald Trump's election victory, leading traders to bet that the Federal Reserve will slow down its easing cycle. This, in turn, has affected the appeal of Indian fixed-income securities.

Impact of Central Bank Actions

A more hawkish stance by the Reserve Bank of India is also expected to have an impact on local bond returns. Chief Shaktikanta Das has pushed back against rate cuts despite inflation accelerating to a 14-month high in October. This indicates that the central bank is cautious about further easing and may focus on maintaining price stability. Such a stance could limit the upside potential for local bond yields.However, there is a glimmer of hope. JPMorgan is looking to boost India's weighting in its key bond index to 6% by the end of November. Additionally, both Bloomberg and FTSE Russell are planning to add the country's bonds to their respective emerging-market gauges next year. These developments could potentially attract more investors and stabilize the bond market.In conclusion, the current situation in India's bond market is complex and dynamic. The narrowing yield gap, along with central bank actions and potential index additions, will continue to shape the market in the coming months. Investors need to closely monitor these developments and make informed decisions.