Morgan Stanley says India to be included in global bond indices next year; these stocks may benefit

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Global brokerage firm Morgan Stanley believes that India to be included in global bond indices in the early next year. It also projected that the index inclusion will attract $170 billion and $250 billion in bond inflows in the next decade in the base and bull scenario, respectively. As a result, this would have huge implications for the economy, foreign exchange, bond yields and equity markets.

Sharing its view on the equity market, Morgan Stanley said that the opening up of the sovereign bond market and resultant inflows should bring good news for equity returns thanks to a positive impact on growth and likely implications for softening interest rates.

“We believe this accentuates the case for India’s return correlations to decline. We see banks benefiting from stronger growth and lower borrowing costs. Private banks, particularly large ones, should be key beneficiaries. Among non-bank financials, potential beneficiaries are likely to be HDFC, Bajaj Finance, SBI Cards, Mahindra Finance and Cholamandalam Finance,” Morgan Stanley said.

The overseas financial firm also added that the long-term interest rates, as expressed by the 10-year yield, relative to equity valuations have strong predictive power for equity returns. Equities/bond valuations are at the top end of their 2010-21 ranges – a period during which India went through its deepest and longest earnings recession.

“If growth accelerates from here, as we expect, it is likely that equities break this range on the upside, consistent with the fundamental relationship (like they did between 2004 and 2007),” Morgan Stanley said.

It further said that foreign ownership of Indian government bonds (IGBs) has been declining but 2022 would be the turning point that could bring an acceleration of bond inflows. The GBI-EM and Global Aggregate indices are likely to include India in early 2022.

“We expect one-off index inflows of $40 billion in 2022/23, followed by annual inflows of $18.5 billion in the next decade, pushing foreign ownership up to 9% by 2031,” it said.

Morgan Stanley further highlighted that the opening up indicates policy-makers desire to push growth rates higher through investment. “It will push India’s balance of payments into a structural surplus zone, indirectly create an environment for a lower cost of capital and ultimately be positive for growth,” it said.