India’s foreign exchange restrictions have made it costlier and more complex for overseas investors to hedge against rupee volatility, which has reduced the attractiveness of Indian bonds.
At the same time, a war-driven hit to earnings prospects is adding fresh pressure on equities.
Steps taken by the Reserve Bank of India to stabilise the rupee, including measures aimed at limiting arbitrage trades, have helped ease pressure on the currency.
However, these actions have increased hedging costs for foreign bond investors in both the onshore over-the-counter market and the offshore non-deliverable forward market.
One-year hedging costs in the onshore market have risen by around 30 basis points since the measures were introduced.
Offshore, the increase has been sharper, with NDF hedging costs climbing nearly 70 basis points.
In the immediate aftermath of the RBI’s move, NDF hedging costs reached their highest level in more than 12 years.
Liquidity in the NDF market has also thinned, making hedging more expensive and difficult to execute.
This market is a key channel used by foreign investors to manage rupee exposure.
“Such high hedging costs wipe out almost all the carry and roll-down from Indian government bonds,” said Matthew Kok, portfolio manager at Eastspring Investments, as quoted in a Reuters report.
“Investors are being paid much less for the risks they take.”
Eastspring, which manages about $280 billion in assets, is currently neutral on Indian bonds.
Foreign outflows accelerate amid oil shock
The RBI’s measures have further weakened sentiment toward India at a time when rising oil prices, triggered by the Iran war, are already weighing on the economic outlook.
India imports approximately 90% of its oil requirements and relies heavily on supplies from the Middle East.
Foreign investors have sold roughly 211 billion rupees ($2.26 billion) of Indian government debt since the conflict began on February 28, with selling accelerating after the FX curbs, according to data from the clearing house.
Some investors believe oil prices may no longer be the sole factor influencing foreign inflows following the RBI’s recent actions.
“I do not expect sentiment toward India to shift quickly, even if oil prices ease from here,” said Nigel Foo, head of Asian fixed income at First Sentier Investors, as mentioned in Reuters report.
He pointed to ongoing concerns about currency stability.
Foo added that foreign investors typically return slowly once they exit, especially when currency risks remain.
“A meaningful rise in bond yields may be needed before sentiment improves,” he said.
Equity markets face earnings pressure
Higher oil prices are also intensifying concerns among equity investors.
Foreign investors have sold about $38 billion worth of Indian equities since the start of 2025, with record outflows of $12.7 billion in March alone.
The Iran conflict has deepened concerns that were already building, said Angela Lan, senior strategist at State Street Investment Management.
Brokerages have begun cutting earnings forecasts, with expectations that downgrades will broaden in the coming quarters.
Goldman Sachs has reduced its earnings growth forecast for India by a cumulative 9 percentage points over the next two years.
Meanwhile, Nomura has warned of a 10–15% downside risk to consensus earnings estimates for the current financial year if oil prices remain elevated.
The firm has also cut its December 2026 target for the Nifty 50 index by 15% to 24,600.
The index has already declined more than 7% this year.
