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India achieved a significant milestone by launching its inaugural 50-year government bond, joining the ranks of sovereign issuers like France, Italy, Canada, Switzerland, and China. The introduction of a 50-year bond represents India's strategic move to diversify its sovereign debt market and entice investors with an appetite for long-term government securities.
The Reserve Bank of India (RBI) conducted the auction of the 50-year bond, and the response was overwhelmingly positive. The auction generated substantial interest, with total bids exceeding Rs.40,000 crore, far surpassing the initial Rs.10,000 crore issue size. The bid-to-cover ratio, a key metric of investor demand, exceeded 4, indicating robust interest in this long-duration bond, particularly from insurance companies and pension funds.
Insurance companies demonstrated a pronounced interest in the 50-year bond as a strategic move to match their investments with long-term liabilities. This alignment of assets and liabilities has become a pivotal consideration for insurance companies in their investment decisions. The response from investors showcased a specific requirement for the 50-year tenor among those with extended liability profiles.
One noteworthy aspect of India's 50-year bond issuance was the marginal difference in yield spreads between the 10-year and 50-year bonds, merely 15 basis points. The narrow spread underscores the strong demand for the 50-year bond, with investors accepting the increased risk and duration in exchange for the higher yield it offers. In fact, the new bond got priced at a negative spread of 2 bps versus the 40-year bond trading in the secondary market.
However, it is imperative to acknowledge the heightened sensitivity of long-term bonds, such as the 50-year bond, to changes in yield levels. A 100-basis point change in yields results in a 7% price sensitivity for 10-year bonds, while the price sensitivity for 50-year bonds is substantially higher at around 13%.
To understand impact of interest rate changes on longer maturity bonds and the corresponding price dynamics, one can look at Austria's 100-year bond - issued in 2020 with a yield of 0.85% maturing in 2120, trading currently at ~39cents to a dollar. While India's 50-year bond offers a significantly higher yield, its heightened sensitivity implies potential capital losses if yields experience substantial increases in the future. This underscores the importance of prudently managing interest rate risk associated with long-term instruments.
India's commitment to long-term government bonds remains evident as it plans to issue Rs.200 billion of 50-year bonds in the coming months. The first tranche of Rs.100 billion is scheduled for December, followed by another Rs.100 billion in January.
The introduction of a 50-year government bond marks a substantial leap in Indian financial markets. The significant demand, notably from insurance companies and pension funds, highlights the imperative to align investments with extended liabilities. In the past few years, the insurance and pension fund segment has shown huge appetite for long tenure bonds. A huge outstanding of Bond-forward rate agreement (FRA) transactions is a clear indication of the continuation of such demand. These Bond-FRA trades allow insurance companies to lock in the price of long duration bonds at the prevailing prices, thereby offering them certainty of availability of long duration bonds at a defined yield. Increasing insurance penetration and pension fund coverage should ensure continued demand for such bonds. Further, some investors are bullish on interest rates with medium-term view and accumulating longer duration bonds, keeping in mind the convexity feature of interest rate curves.
Nonetheless, investors must judiciously assess the risk and return characteristics of such long-term instruments, given their sensitivity to changes in interest rates. India's continued exploration of ultra-long-term debt instruments symbolizes a strategic step forward in diversifying its debt market and attracting a wider spectrum of investors as part of its economic growth strategy.
Deepak Sood is the Partner and Head–Fixed Income, Alpha Alternatives. The views expressed in this article are those of the author and do not reflect the views of Cafemutual.
