Mumbai/Jakarta: Barclays Plc and SEB AB favour Indian assets over Indonesian, as policymakers use a delay in tapering of US stimulus to repair the nation’s finances.

The extra cost of protecting bonds of State Bank of India (SBI), a proxy for the sovereign, over those of Indonesia’s government will drop from a one-year high as the shortfall in India’s broadest measure of trade narrows, Barclays predicts. The rupee, emerging Asia’s worst performer after the rupiah in 2013, gained in the past three months and will have breathing room until the Federal Reserve starts paring its asset purchases in March, according to the UK lender.

Pacific Investment Management Co., which runs the world’s biggest bond fund, said Reserve Bank of India (RBI) governor Raghuram Rajan made hay while the sun shines by buying dollars as the rupee rallied. Foreign reserves increased by $7 billion to $254 billion at the end of October from August. Indonesia’s buffer rose by $4 billion to $97 billion in the same period.

“India has steadily been working to prevent a repeat of August," Sean Yokota, the Singapore-based head of Asia strategy at SEB, Sweden’s fourth-biggest bank by market value, said in an 18 November email interview. “Upside risk to inflation is lower in India relative to Indonesia," according to Yokota.

Rajan has raised RBI’s benchmark repurchase rate twice since taking over as RBI governor at the start of September and pledged to curb inflation. India’s consumer prices climbed 10.1% from a year earlier in October, compared with an 8.32% increase in Indonesia, official data show.

Deficits, currencies

The spread between five-year credit default swaps of SBI and Indonesian sovereign debt touched 122 basis points on 18 November, the highest since November 2012, according to data provider CMA. Barclays last week cut its forecast for India’s current-account deficit for the year through March 2014 by about $20 billion to $48.2 billion and raised its prediction for Indonesia’s 2013 shortfall by $2 billion to $33.5 billion.

The rupee has weakened 12.5% to 62.8575 per dollar this year, while the rupiah has slumped 17.7% to 11,713, data compiled by Bloomberg show. India’s currency has rebounded 9.5% from an unprecedented low reached on 28 August, while its Indonesian counterpart has slipped 6.6% in that period.

SEB recommends investors buy India’s currency as Rajan will likely increase the repurchase rate by 50 basis points to 8.25% in the next three to six months as the Fed prepares to cut its record bond buying. Barclays says the RBI’s offer of discounted swaps for dollars raised by banks, scheduled to end 30 November, will help fund about 60% of the nation’s current-account shortfall.

Barclays strategy

“We believe India’s current-account deficit is adjusting at a faster pace than expected by markets," Barclays analysts, including Siddhartha Sanyal in Mumbai, wrote in a 14 November report. They recommend buying Export-Import Bank of India’s bonds due in 2023 and selling Indonesia’s 10-year debt.

Both nations run current-account and fiscal deficits, are tightening monetary policy to rein in price pressures amid slowing growth, and face political risks before national elections due next year. What differentiates India is that most of its debt is held by locals, allowing for greater policy flexibility, according to Spiro Sovereign Strategy.

Global funds held 1.59% of India’s outstanding local-currency sovereign debt as of the end of June, compared with 31.9% of Indonesia’s, official data show.

‘Rock solid’

The composition of India’s investor base helped attract Union Investment Privatfonds GmbH to its debt, while staying underweight on Indonesia. Sergey Dergachev, senior portfolio manager at the Frankfurt-based company, who bought dollar bonds of Reliance Industries Ltd and HDFC Bank Ltd, said holding patterns matter in times of market turbulence.

The best Indian credits like RIL or SBI are rock solid, and have the ammunition to withstand market turmoil, Dergachev, who helps oversee about $9 billion of assets at Union Investment, said in an 18 November email interview. “When US tapering talk resumes, I will expect Indonesia to underperform significantly versus India," he wrote.

Even as investors react to risks in India and Indonesia, the nations won’t be avoided entirely because they offer relatively higher sovereign yields by way of compensation, Ramin Toloui, Singapore-based head of emerging markets at Pimco, said in a 14 November interview.

‘Pick your poison’

Ten-year government bonds yield 8.39% in Indonesia and 9.1% in India, compared with with 3.68% in South Korea and 4% in Malaysia.

Indonesian yields are still attractive and will continue to attract inflows, Priyo Santoso, who helps manage about $1.7 billion of assets as chief investment officer at PT Mandiri Manajemen Investasi in Jakarta, said in a 19 November interview.

“There are significant differences between India and Indonesia but worrying parallels as well," Nicholas Spiro, managing director at Spiro Sovereign Strategy in London, said in a 19 November telephone interview. For investors, it’s a case of “pick your poison". Bloomberg

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