India Set to be the Second Largest Bond Market in the World: A Transformative Shift

India’s bond market is on the cusp of remarkable growth, positioning itself to become the second-largest globally, behind only the United States. As of March 2024, India’s debt market stands at over USD 2.5 trillion and continues to expand at a rapid pace, driven by a confluence of factors that signal a robust future for both domestic and international investors. This growth comes with profound implications for the Indian economy, the banking sector, industries, and the investors alike. Let us explore the data, development drivers, and the broader impacts of India’s emerging dominance in the global bond market.

The Growth of India’s Bond Market: Numbers and Data

India’s bond market has experienced significant expansion over the past decade. The total market size, including government and corporate debt, has ballooned to ₹ 217 trillion (USD 2.56 trillion). This growth is not just limited to government securities (G-Secs, SDLs), which dominate the market at about 70%, but also corporate bonds, which have risen steadily, and are having a market share of 22% as of March 2024.

• Size of Indian Bond Market: Standing at ₹ 68 trillion as on 31^st March 2014, this has steadily risen to ₹ 217 trillion as on 31^st March 2024.
• Government Securities (G-Secs): ₹ 97 trillion (March 2024).
• State Development Loans (SDLs): ₹ 54 trillion (March 2024). It has risen 5 times in 10 years.
• Corporate Bond Market: Estimated at ₹ 47 trillion (March 2024). It has risen 3 times in 10 years. It is expected to grow faster, with a CRISIL report suggesting it could more than double to ₹ 100- 120 trillion by 2030.
• Market Size Growth: Expected to reach USD 5 trillion by 2028, making it the second largest globally.
• Bond Market Liquidity: India’s bond market liquidity has seen a boost with foreign participation reaching nearly 8% in government securities in 2023, compared to less than 2% a decade ago.

This growth is driven by both structural reforms and favorable economic conditions. The Indian government has actively taken measures to liberalize the market, simplify regulatory frameworks, and increase transparency, which has played a pivotal role in attracting global capital.

Government of India: Reform and Infrastructure Push in the India Bonds Market

The Government of India has played a pivotal role in creating a conducive environment for the bond market to flourish. Several key initiatives have contributed to this growth:

• Introduction of New Financial Instruments: The government introduced innovative instruments like masala bonds (rupee-denominated offshore bonds), green bonds, and municipal bonds. These have broadened the issuer base.
• National Infrastructure Pipeline (NIP): The government’s focus on building robust infrastructure through projects worth ₹ 111 trillion under the NIP between the years 2020-25 is fueling the need for long-term financing, with bonds serving as a key funding mechanism.

Additionally, India’s fiscal deficit has been consistently high, leading to increased government borrowing. In FY 2023-24, the fiscal deficit was 5.6% of gross GDP, necessitating higher borrowing through bond issuance. This need for government financing is one of the primary factors behind the expansion of G-Secs. In addition, the government is using bonds to fund infrastructure and green projects, further driving market growth.

Reserve Bank of India (RBI): Facilitating Liquidity and Market Access

The RBI’s role in the bond market has been crucial, particularly in developing government securities markets and improving liquidity.

• Retail Direct Scheme: Launched in 2021, this scheme allows retail investors to directly purchase government bonds through an online platform. This initiative has enabled wider participation from smaller cities and rural areas.
• Market-making and Yield Curve Development: The RBI has actively worked to establish a reliable yield curve by issuing government bonds of varying maturities. A well-formed yield curve helps the issuers price debt efficiently and provides investors with clearer signals about future interest rates and inflation trends.
• Monetary Policy and Liquidity Management: RBI’s actions in setting repo rates, managing liquidity through open market operations, and creating avenues for banks to trade bonds have had significant impacts on bond yields and market participation. During periods of high inflation or economic contraction, the RBI’s intervention has maintained liquidity in the bond market, stabilizing yields.
• Inflation Control: The RBI’s focus on inflation control has also played a key role in stabilizing bond yields. By maintaining inflation within a targeted range of 4%-6%, the RBI has made bonds an attractive investment, providing predictable returns in a stable economic environment.
• Foreign Investment Promotion: The RBI has liberalized norms for Foreign Portfolio Investors (FPIs), making it easier for them to participate in India’s bond market. Foreign investment in Indian bonds is vital, especially as India’s bonds are likely to be included in major global bond indices in the near future. The introduction of the Fully Accessible Route (FAR) for foreign investors in 2020, which allows full access to government securities without any caps, has been a game changer. This reform has greatly increased foreign interest in India’s bond market.

SEBI: Regulation and Market Confidence:

SEBI’s regulatory framework has been instrumental in fostering trust and transparency in the corporate bond market.

• Reforming Corporate Bond Market: SEBI has introduced various measures to simplify the issuance of corporate bonds. For instance, it has mandated that companies with a certain credit rating must raise a portion of their debt from the bond market, encouraging issuers to tap into this avenue rather than relying solely on banks.
• Electronic Bond Trading Platforms: The launch of Electronic Bidding Platform for Private Placement of Debt (EBP) has made it easier for issuers to raise funds and for investors to access transparent pricing.

The RFQ Platform is a unified marketplace to trade all types of debt securities namely corporate bond, CP, CD, G-sec, SDL and T-bills etc. It was launched by NSE on February 4, 2020. With recent SEBI’s circular to permit participation through brokers from 01 Jan 2023, all types of participants including retail are now allowed to access the RFQ Platform by using the services of members of the debt segment. Presently, more than 700+ participants are enabled on the NSE RFQ Platform.

• Credit Rating Agencies: SEBI’s efforts to improve the standards and accountability of credit rating agencies have bolstered investor confidence in corporate bonds. This ensures that bonds issued in India maintain a high level of credibility.

Apart from the actions of the above major players, the following factors have also greatly contributed to the growth of the Indian bond market.

• Institutional Investors and Pension Reforms: Domestic institutional investors, such as insurance companies, pension funds, and mutual funds, are increasingly turning to the bond market as a reliable source of stable returns. Recent reforms allowing pension funds to invest in corporate bonds have added depth to the market.
• Increased Foreign Participation: Foreign Portfolio Investors (FPIs) have been steadily increasing their exposure to Indian bonds, drawn by high yields relative to global markets and India’s improving macroeconomic fundamentals. In FY 2023- 24, foreign portfolio investors (FPIs) made a net investment of ₹121 lakh crore in India’s debt markets, the highest inflow since FY 2014-15. This interest is expected to rise further with India being included in global bond indices.
• Corporate Bond Issuances: The Indian corporate bond market has grown rapidly with the regulatory changes and increasing corporate reliance on debt over equity.
• Infrastructure Demand: Infrastructure development, particularly through the National Infrastructure Pipeline (NIP), requires massive amounts of long-term capital. The bond market is increasingly becoming the go-to channel for financing these large-scale projects.
• Digital Transformation and Retail Participation: One of the most exciting trends in the Indian bond market is the increasing participation of retail investors, particularly from smaller cities and rural areas. The launch of the Retail Direct Scheme and digital platforms has made it easier for individuals to invest in government bonds directly.

Moreover, the RBI and SEBI have been promoting investor education and awareness programs, which have contributed to the growing culture of bond investing beyond the traditional urban centers. This trend is expected to gather momentum as digital penetration increases and more investors seek the relative safety and stable returns offered by bonds.

• Global Liquidity and Low Interest Rates: Over the past decade, low-interest rates in developed economies, particularly in the U.S. and Europe, have led to an influx of foreign capital into emerging markets, including India. With relatively higher yields, India’s bond market has become attractive to international investors.
• Geopolitical Uncertainties: Global uncertainties like the Russia-Ukraine conflict and U.S.-China trade tensions have led to volatility in global equity markets, pushing investors toward safer asset classes like bonds. This “flight to safety” has increased demand for Indian bonds, which are considered relatively stable given India’s robust economic growth.

Impact of India’s Bond Market Growth

The growing bond market is impacting the Indian banking industry, and, as a result, the Indian economy.

Impact on the Banking Industry:

As the bond market develops, it is likely to have profound implications for the Indian banking sector. Traditionally, banks have been the primary source of funding for Indian businesses, but a growing bond market offers companies an alternative to bank loans. This shift could mean lower deposit and advances growth rate, but it also lowers the risk of non-performing assets (NPAs), which have historically been a significant challenge for Indian banks.

At the same time, banks themselves stand to benefit from a more liquid and mature bond market. Banks hold large amounts of government securities as part of their statutory liquidity ratio (SLR) requirements. A deeper bond market with better liquidity and pricing can provide banks with more efficient management of their portfolios, improving profitability.

Impact on the Indian Corporate Sector:

For the Indian corporate sector, a developed bond market means easier access to long-term financing. Indian companies, especially those in capital-intensive industries like infrastructure, energy, and manufacturing, can issue bonds at more favorable terms than they could secure from banks. This reduces their cost of capital and allows them to undertake larger projects with greater confidence. A more liquid bond market also enables corporates to refinance existing debt more easily, reducing default risks and stabilizing their financial health.

Green Bonds and Sustainability:

An emerging trend in the Indian bond market is the rise of green bonds, which are used to finance environmentally sustainable projects. India has set ambitious targets for renewable energy, and the green bond market is expected to play a crucial role in achieving these goals. The issuance of green bonds crossed USD 10 billion in 2023, making India one of the top issuers in the emerging markets.

Impact on the Indian Economy:

The expansion of the bond market holds several significant implications for the Indian economy. One of the most notable impacts is the increased availability of long-term capital for infrastructure development. India’s infrastructure financing needs are immense, with the National Infrastructure Pipeline (NIP) estimating a requirement of ₹111 lakh crore between 2020 and 2025 to build infrastructure projects and drive economic growth. The bond market, especially through the issuance of green bonds and long-term debt, can be a key player in meeting these financing needs.

Additionally, a deep and liquid bond market can reduce the cost of capital for businesses, enabling them to finance expansion at lower interest rates. As companies increasingly turn to the bond market for raising funds, this alleviates pressure on the banking system and contributes to overall economic growth.

Recent Developments: Giving Indian Bond Market a Big Boost

Domestic Developments

• Fiscal Stimulus and Infrastructure Push: The government’s post-pandemic recovery plans involve significant fiscal stimulus, with a focus on infrastructure development. This has led to an increased issuance of bonds, particularly for long-term financing projects.
• Corporate Bond Market Reforms: SEBI has recently introduced stricter disclosure norms and transparency requirements for issuers in the corporate bond market. These reforms aim to improve investor confidence and reduce the risk of defaults, making the market more attractive.
• RBI’s Monetary Policy Stability: One of the key factors making Indian bonds so attractive is the stability in the Reserve Bank of India’s (RBI) monetary policy. Over the past few months, the RBI has kept its key interest rates unchanged to manage inflation while supporting economic growth. Even in the latest meeting of the Monetary Policy Committee concluded on 9^th October, RBI has kept the repo rate unchanged. This not only offers a stable yield environment, which is highly desirable for bond investors, particularly in the context of an uncertain global environment, but also maintains a high interest differential, making Indian bonds very attractive for the foreign investors.

Also, the recent regulatory adjustment by the RBI allowing banks to allocate 23% of their deposits to corporate bonds under the held to maturity (HTM) category is expected to bolster investor interest, underscoring the growing significance of corporate bonds

International Developments

• US Fed Rate Cut and RBI’s Interest Rate Stability: The US Federal Reserve’s recent decision to cut rates by 0.50% has made yields in emerging markets like India more appealing for global investors, more particularly as the RBI has kept the rates unchanged.
• Inclusion of Indian Bonds in Global Bond Indices: India’s inclusion in global bond indices is a significant milestone. Recently, India’s bonds were included in JP Morgan’s Government Bond Index-Emerging Markets (GBI-EM), FTSE Russell announced that it will add Indian bonds to its Emerging Markets Government Bond Index (EMGBI) in September 2025. For the Bloomberg index, a similar process will start in January 2025. Other global indices are likely to follow. This is expected to lead to substantial foreign investment inflows into India’s bond market, as many international investors and funds benchmark their portfolios against these indices. Over the next five years, experts predict an annual wave of foreign investment of USD 30-40 billion.
• Geopolitical Shifts: Amid global uncertainties, including the recent rate cut by the US Fed and geopolitical tensions, India’s relatively high yields and stable economy make its bond market an attractive option for international investors.
• Global Debt Dynamics: The global debt market has grown significantly due to pandemic-related borrowing. Emerging markets like India, with relatively higher yields, are becoming more attractive for global investors seeking diversification.

What This Means for the Investors?

For investors, India’s burgeoning bond market represents an attractive opportunity for several reasons:

• Higher Yields: Indian bonds offer significantly higher yields compared to developed markets, making them an attractive option for foreign investors.
• Diversification: With the inclusion of Indian bonds in global indices, foreign investors can diversify their portfolios with an emerging market that offers strong growth prospects and a relatively stable political environment.
• Long-Term Stability: India’s macroeconomic policies, including inflation control and fiscal discipline, offer long-term stability.
• Retail Investor Opportunities: India’s retail investor base is also expanding in the bond market. New platforms and simplified processes for bond buying have opened up opportunities for small investors. The introduction of RBI’s Retail Direct scheme allows individuals to invest directly in government securities, enhancing retail participation.

Conclusion

India is well on its way to becoming the second-largest bond market in the world, driven by robust economic fundamentals, financial reforms, and a growing demand for long-term capital. This growth offers immense opportunities for investors, both domestic and international, and provides the Indian economy with a critical source of funding for infrastructure and development projects. The bond market’s expansion also promises to transform the banking sector and support the growth of Indian industry, paving the way for sustained economic growth in the coming decades. India’s bond market is no longer a niche segment but is quickly becoming a global player, poised to reshape the country’s financial landscape and attract capital from all corners of the globe.