The emerging country that has never defaulted
India’s equity market has attracted most attention over the past few years, overtaking Hong Kong to become the world’s fourth largest equity market, behind the US, China and Japan.
India’s government debt market at over USD 2 trillion is about half the size of its equity market worth USD 4 trillion, but Indian government bonds could offer some useful extra income for less adventurous investors.
The new iShares India INR Govt Bond UCITS ETF (CEB6) has a weighted average yield to maturity of 6.74%, which is about 3% more than ten year US Treasury bonds around 3.76% - and about 4.64% more than ten year German Government bond yields now around 2.09%.
The product tracks the Bloomberg Indian Government FAR Bond Index, made up of Indian Rupee denominated, fixed rate debt issued by the Government of India. There is no corporate debt, and probably very low default risk. Though India’s sovereign BBB credit rating is just shy of “investment grade”, unlike many emerging market countries, India has never defaulted on its debt. In 2023, emerging market sovereign defaults included Argentina, Ghana, Sri Lanka, Liberia and Suriname. In Latin America, Venezuela, Ecuador, Brazil, Costa Rica and Uruguay have all defaulted 9 or 10 times over the years.
India’s debt to GDP ratio around 80% is now lower than the UK at 100% or the US at 120%, and the arithmetic of debt sustainability means India is in a much better fiscal position thanks to its economic growth. India’s economy, expanding by 8% over the last year, is helping to generate more tax revenue. Though India had a budget deficit of 5.6% last year, that is easily manageable given the growth.
If investors develop an appetite for Indian government bonds, bondholders might get some capital gains as well. If investors are prepared to accept a lower yield, they will pay a higher price for the fixed rate debt.
Having been launched only this year, the product cannot yet show a performance history. However to get a rough guide we can look at the Bloomberg Indian Government FAR Bond Index, which is up roughly 15% over the past four years and has given investors a steadier ride than US Treasuries. Though there was a dip in 2022 as rates rose, it was a shallower pullback than seen in US government bonds.
The reason is that Indian interest rates have been more stable than US interest rates. Whereas US rates went from near zero to 5%, causing losses for bonds priced inversely to rates, Indian interest rates have ranged between 4% and 6.5% over the past four years. This means that the main story has been the income and the bond price sensitivity to rate changes has played second fiddle.
The expense ratio of 0.35% is lower than the 0.39% charged by L&G India INR Government Bond UCITS ETF, which tracks a different index: J.P. Morgan India Government Fully Accessible Route (FAR) Bonds Index.
Broader EM sovereign debt ETFS are not necessarily cheaper. iShares J.P. Morgan USD Emerging Markets Bond ETF also charges 0.39%, though the Vanguard Emerging Markets Government Bond ETF is a bit cheaper at 0.20%. The price war in US equity ETFs has not reached emerging market bonds.
If investors feel confident that India will not default, they may prefer a pure play India ETF rather than one exposed to dozens of countries that will probably have to deal with some defaults at some stage.