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S. Vaidya Nathan

FOREIGN institutional investors do not seem to exercise the same kind of hold on the market as they did in the mid-1990s — the years that immediately followed their entry into India.

Going forward too, as insurance companies and pension funds get into equity, the FIIs may find their clout waning .

In the mid-1990s, the FIIs' investment actions were the chief drivers of market movements. The circulation of an FII research report with a buy or an overweight position was enough to tickle interest in any stock.

It was common for IPO offer documents of companies — those of Jindal Vijayanagar, IDBI and Essar Oil are classic instances — to be accompanied by FII research reports.

The manner in which the FIIs approached their exposure to the Indian market was also a factor. Between 1993 and 1995, the FII theme was `buy into India'.

Any stock of some note was good enough to ride the growth wave on. That Morgan Stanley Growth Fund had 335 stocks in its portfolio in mid-1994 is evidence enough of this.

Large-, mid- and small-cap stocks, as well as those in every possible industry segment figured in the portfolio. It is quite likely that Morgan Stanley's FII investments were also on similar lines.

Yet another theme was buying into the finance sector — financial institutions and banks — as a proxy to ride on Corporate India's growth.

The GDR offerings of some 50 companies — including NEPC Micon and Indo Rama Synthetics — were lapped up at fancy prices by the FIIs in the heady mid-1990s. There was no stress on management quality or other subjective factors that ought to have influenced an investment decision.

It took the meltdown of 1994-95 for the FIIs to take a fresh look at their approach.

By then, most of their investments had turned out lemons — be it in the Indian market or in the GDRs of Indian companies. Change did happen, and with a vengeance. The realisation dawned that not every stock they bought into would deliver the expected returns. . The FIIs became selective.

Soon, attention was paid to management quality and the acceptable level of price earnings multiples came down. For economically sensitive stocks — especially commodity stocks — PEMs were down to single digit. The likes of Grasim, Reliance, Larsen & Toubro and Tata Tea had never seen such PEMs. But that trend has stuck, to this day.

As the FIIs turned selective, they focussed on opportunities in the pharmaceutical, IT and FMCG sectors.

Alliance, Pioneer and Morgan Stanley were among the first to cotton on to investment ideas such as HDFC, HDFC Bank, Infosys, Satyam Computer and Zee Telefilms — long before other FIIs and domestic investors started eyeing these stocks.

Till 1998, the kind of stocks FIIs preferred was fairly clear, as their investments were concentrated in a few sectors. As they were early entrants, the effect of impact costs was not high.

From the last quarter of 1997, the FIIs started to trade in a big way, with their sales-to-purchases touching the 85-90 per cent mark.

This did make it slightly difficult to zero in on stocks where the actual inflows were going into.

When the FIIs started moving away from just the three sectors in 1999 and adopted a more diversified approach after the IT meltdown of early 2000, their universe of stocks also expanded.

The number of active FIIs has also gone up from the mid-1990s and they hold more diversified portfolios.

In relation to any single stock, different FIIs may be on both the buy and sell sides. So, the signalling effect is more diverse now.

In the mid-1990s, holding stocks such as Infosys and HDFC in anticipation of FII purchases was a paying strategy for market players.

No longer. But as the kind of stocks they prefer is pretty well known by now, FII investment actions no longer have the surprise element.

The impact of FII flows now is mainly on liquidity. Even a modest quantum of FII selling is enough to make prices dip, as it happened in October 2002.

But their buying has not had the same effect by way of an upside to stock prices, especially in the last three years. Rather, it provides more of a cushion on the downside.

For investors looking for signals from the FIIs, it may be best to look at periods of sizeable FII flows as an opportunity to capitalise on a liquidity-driven rally in stock prices.

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