Foreign Money Returns but Conviction Remains Short

Nearly ₹100 billion of foreign money has entered India's government bond market in the three trading sessions following the government's tax relief and the Reserve Bank of India's market-access measures. Holdings of securities under the Fully Accessible Route have climbed to a record ₹3.34 trillion, suggesting policymakers' efforts to attract foreign capital are beginning to show results.

The policy package was not designed merely to deepen the bond market; it was also aimed at improving India's ability to attract foreign capital at a time when external financing conditions have become considerably less favourable. India is facing balance of payments pressures, sustained foreign portfolio outflows, elevated global interest rates and a weaker rupee, making the attraction of overseas capital an increasingly important policy objective.

Against that backdrop, the government exempted foreign investors from capital gains tax on investments in government securities, while the Reserve Bank of India expanded the universe of bonds eligible under the Fully Accessible Route by including all new issuances of 15-year, 30-year and 40-year government securities. Restrictions relating to concentration limits and short-term investments were eased, and a concessional dollar-rupee swap facility was introduced to encourage foreign currency borrowing and support dollar inflows.

The immediate response has been encouraging, and yet, the more revealing story lies not in the amount of money entering the market but in where that money is being deployed.

Foreign investors have overwhelmingly favoured shorter-dated bonds.

The 6.36% government security maturing in 2031 alone attracted more than ₹40 billion of purchases over the past three trading sessions. Even before the latest measures, foreign investors had been gravitating towards the front end of the curve.

That preference offers an important insight into how overseas investors currently view India.

If investors were making a broad-based, long-term allocation to Indian debt, demand would likely have been spread more evenly across maturities, especially after the RBI expanded access to longer-dated securities. Instead, investors appear willing to increase exposure while limiting duration risk.

The explanation lies partly outside India as expectations of US Federal Reserve rate cuts have steadily receded as the US economy has remained resilient. Elevated US Treasury yields continue to provide attractive returns, reducing the incentive to lock money into long-duration emerging-market assets.

For foreign investors, buying a five-year Indian bond is very different from buying a 30-year one. The former is often a carry and liquidity trade. The latter requires confidence in inflation, fiscal dynamics, currency stability and the broader policy environment over a much longer horizon.

Much of the recent optimism has centred on India's potential inclusion in Bloomberg Global Aggregate Index later this month. Estimates of potential inflows range from around $40 billion to as much as $70 billion over time.

Index inclusion may bring passive money into the market, but the current pattern of flows suggests active investors remain selective. They are responding positively to improved market access and better tax treatment, but they are not yet embracing duration risk in a meaningful way.

None of this diminishes the significance of the latest reforms, and the government's tax exemption and the RBI's market-access measures address long-standing concerns among foreign investors and strengthen India's position in global fixed-income markets.

The early verdict from investors is therefore positive. The more important test will be whether confidence eventually extends beyond the shorter end of the curve. For now, foreign money is returning to India, but the preference for shorter maturities suggests conviction remains more measured than the headline inflow numbers might imply.