Will FIIs continue to power market rally?

Foreign investors were once again at the forefront in driving the Sensex and the Nifty to new highs on Friday. Now that the election results are out, will their strategy change? Will FIIs continue to bring in money in the hope that the new government will deliver? Or, will they exit with a neat profit?

On the face of it, the potential for greater flows is huge. According to a report by TheCityUK, an organisation that promotes the UK as a financial destination, assets of the global fund management industry totalled $118 trillion at the end of 2012. India has cumulatively received less than 2 per cent of this asset pool in investments in equity and debt.

At the same time, FIIs are a heterogeneous bunch, with different investment strategies. Conventional funds such as pension funds, mutual funds and insurance companies — which are relatively more conservative players with an eye on the long or at least longer term — manage $87.2 trillion. Those with short-term perspectives — alternative funds such as hedge funds, private equity funds and exchange traded — accounted for $11 trillion with private wealth funds accounting for the rest.

Market experts believe that it is the alternative funds that have been moving money into India before the election, with the conventional funds preferring to wait and watch. “Conventional funds such as pension funds are usually very careful about making such investments [betting on elections]. I believe that they will start studying the situation in India from now on. The flows thus far are likely to have been from other investors, maybe hedge funds,” says CJ George of Geojit BNP Paribas.

But future fund flows, both conventional and alternative, could be influenced by the tepid state of the US market. Since most FII money emanates from the US — TheCityUK report says the country accounts for a 45 per cent share in the global pool of assets — there is a greater likelihood of this money moving to other markets, including India.

While US-based investors had good reason to invest in their own stocks since the last quarter of 2010, with the US stock market steadily climbing as other emerging markets languished, the Dow has made little progress since the beginning of this calendar. With the steep correction in Internet stocks on Nasdaq, the confidence of the US investors has been shaken.

Compared to other emerging economies, including Brazil and South Africa, India seems like a much better investment destination.

“Foreign investors have pumped in $5 billion into equities since the beginning of calendar year, which can largely be attributed to improvement in the macro situation and the attractiveness of India relative to other emerging markets.

“Investors have concerns about China’s growth story, geopolitical issue of Russia-Ukraine and the political and macro challenges in several other emerging markets. Given the decisive political mandate, we believe that Indian markets have the potential to get more flows,” says Navneet Munoth, CIO of SBI Mutual Fund.

Portfolio flows to various emerging markets reveal that Indian stocks received the highest inflow in May this year at $1.57 billion. Appreciation in currency is another factor that could have attracted foreign investors to our shores.

Finally, the extremely low interest rates in the US too need to be closely watched to determine the quantum of fund flows in future.

Carry trade (borrowing money in countries with low interest rates to invest in assets of other countries) from US is cited as one of the important drivers of fund flows into India since 2009. Since it now seems that the Fed is no hurry to increase rates, there appears to be no cause to fret on that score.

All in all, it seems as if the inflows will continue. However, this does not preclude alternative funds pulling out, having made a neat buck, and causing some temporary upheavals in the market.

(With inputs from Aarati Krishnan)