One step forward, two backward: FII flow trends signal hard times

NEW DELHI: Foreign investors’ behaviour vis-à-vis Indian equities over the past few months has been reflecting some confusion.

While the institutional investors have ploughed money into Dalal Street, overseas ETF and mutual fund investors have been busy withdrawing from India-focused funds.

However, the outlook of both sets of investors towards India are converging slowly in recent weeks. Analysts who track foreign fund flows in India believe things do not look too good for Indian market from here on.

Data compiled by Morningstar showed that India-focused offshore funds saw net outflow of $698 million during June quarter, showing exits for the 29th consecutive month. Similarly, India-focused offshore ETFs saw an outflow of $776 million.

Himanshu Srivastava, Associate Director and Manager for Research at Morningstar India said the outflow stood at $450 million in July and provisional data suggests the same trend continues in August.

The outflow is happening at the time when domestic equity indices have outperformed most of their Asian peers.

Some credit for that should go to foreign institutional investors, which have been among the most bullish on Indian stock, buying equities worth Rs 84,387 crore since May, nearly half of them in August alone, as per NSDL data.

Srivastava said the disconnect between FIIs and foreign mutual fund flows could be due to the strategic nature of investment by the former. For example, investments in the rights issue of Reliance Industries or the stake purchase in Kotak Bank and higher investments in direct equities.

Flows into India-focused offshore funds are generally considered long-term in nature, whereas flows into India-focused offshore ETFs indicate flows of predominantly short-term money.

The flow of funds “indicates that foreign investors with long-term investment horizons have been adopting a cautious stance towards India. Although this is worrying, it is not entirely unexpected, given the country’s current economic landscape and uncertainty over the impact of the coronavirus pandemic on the global as well as domestic economies,” Srivastava said.

FII inflows in August have surged compared with July, which analysts believe could be due to a chunk of funds flowing in to QIP issues and bulk share purchases. Bank of America analysts think institutional flows could slow down in the coming months, as some sectors have limited room to grow.

“We expect stock markets to consolidate in the near term, since large sectors led by financials await clarity on the quantum of NPAs/loan restructuring and IT, telecom, pharma sectors now offer limited room for further upside,” said Amish Shah, a research analyst at BofA Securities.

In July, most of the FII money flowed into energy (read: RIL), IT and discretionary sectors while telecom and financial sectors saw outflows.

Shah believes FII flows to industrials and materials sectors could turn positive, especially given their underweight positioning and improving traction for the government’s ‘Make in India’ and capex push.

“Global funds continue to be relatively overweight India vs other APAC countries. A positive India stance is also reflected in contrasting FII flow trends: inflows into India vs outflows from many EMs in July. But MSCI India’s valuation premium to emerging markets is now at 50 per cent vs a long-term average of 36 per cent. We expect the market to consolidate in the near term, but see scope in private sector financials to drive the rally, thereafter once clarity emerges on NPAs,” Shah said.

Similarly, the outlook on flows through India-focused funds and ETFs is also not likely to improve until a clearer picture emerges.

“Except for the quarters ended December 2019 and March 2020, the quantum of quarterly net outflows has largely shown a downtrend, which means much of the outflows have already happened. In some time, when there is growth visibility and Covid-19 crisis ends, we may see money come into India through these funds,” Srivastava said.