U.S. Treasury Bonds Rates Hit 5.2%-5.3%: Can Indian Investors Get 8% Returns As Rupee Depreciates?

US 10-year Treasury yields of 5.2%-5.3%, their highest levels since at least 2007, have brought dollar bonds back into focus for Indian investors. At the current yield, a 2.5%-3% annual fall in the rupee against the dollar could take the rupee return close to 8%. But that additional return depends on currency movement and is not guaranteed.

The rupee return has two components: the yield earned on the US bond and the change in the rupee-dollar exchange rate during the holding period. The dollar has gained about 8% against the rupee over the past year and roughly 3.5% a year over the past decade, according to sources.

That makes an 8% rupee return arithmetically possible at current yields. However, the currency component is an assumption, while the quoted yield is the contractual part. The calculation also excludes tax and other costs. India's own 10-year government bond yields about 7.2%, without exposing investors to currency risk.

Can 5.2% US Bond Yield Become 8% Rupee Return?

The additional return depends on the rupee weakening against the dollar while the bond is held. A depreciation of around 2.5%-3% a year alongside a 5.2%-5.3% dollar yield can take the rupee return towards 8%.

If the rupee strengthens, part or all of the currency benefit disappears. An average long-term depreciation of nearly 3% does not mean the rupee will weaken at that pace over the next one, three or five years.

There is also a separate risk in the bond price. The 5.2% figure is a yield-to-maturity, rather than a fixed annual return. If US yields rise further, longer-duration Treasury funds can record losses even if the rupee continues to weaken.

A 1 percentage point rise in yields can reduce the value of a 10-year Treasury by roughly 7%-8%. Shorter-duration Treasury funds have less interest-rate sensitivity, although their yields are generally lower.

The Federal Reserve raised rates by 25 basis points in September, while the rate outlook remains uncertain. When yields eventually fall, existing bonds can rise in value. T-bill investors, however, face reinvestment risk because their money matures sooner and may have to be deployed at lower rates.

How Can Indian Investors Buy US Bonds?

Indian investors broadly have two routes.

• Under the RBI's Liberalised Remittance Scheme, a resident individual can remit up to USD 250,000 in a financial year. The investor can use an overseas broker or an Indian or GIFT City platform offering global market access to buy Treasuries in the secondary market or US-listed Treasury exchange-traded funds (ETFs).

• The second route is through Indian mutual funds and fund-of-funds that invest in US Treasury ETFs. Investments are made in rupees, so there is no separate overseas remittance process, and the paperwork is simpler.

The fund route has a supply constraint. Mutual funds operate under an industry-wide limit for overseas investments, and several fund houses have stopped accepting fresh money into these schemes this year.

Direct holdings give investors greater control over maturity. Funds are simpler to manage but do not offer the same level of control.

What Risks And Costs Should Investors Consider?

Currency movement, interest rates and costs can all affect the final return.

A 3% appreciation in the rupee in a year, for example, would wipe out more than half of a 5.2% dollar yield. Currency conversion charges also apply when money is sent abroad and brought back.

For investors concerned about price volatility, two- to five-year Treasuries, yielding roughly 4.8%-5.1%, offer most of the 10-year yield with lower price sensitivity. An investor holding a bond to maturity is not affected by interim price movements in the same way as someone selling before maturity.

Tax is another consideration. Interest from these investments is taxed at the investor's slab rate in India. Gains are taxable as well, including gains arising from rupee depreciation, and foreign holdings have to be disclosed in the tax return.

Remittances above ₹10 lakh a year attract 20% Tax Collected at Source (TCS). This can be adjusted against tax, but it can also lock up cash until the adjustment is made.

For Indian investors, the case for US Treasuries therefore also depends on their actual dollar requirements and risk tolerance. The recent fall in the rupee cannot be assumed to continue at the same pace. US bonds can provide dollar diversification, but the currency and interest-rate risks mean the 8% rupee return remains a possibility rather than a dependable outcome.

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