Easy money has fuelled financial markets for more than a decade, as the Global Financial Crisis (2007-08) and the Covid-19 pandemic (2020 onwards), put the central banks on overdrive. As inflation has risen globally over the last three years, the era of cheap money has come to an end. But there are ramifications. An accommodative monetary policy is far easier to start than to stop. As asset values are repriced, investors and institutions face liquidity and solvency challenges.

Cheap money is bad for active strategies. This is because low interest rates and a low-return environment put downward pressure on the fees mutual funds can charge. As the data in the accompanying chart shows, global equity flows to passive funds far outstripped those toward active funds, with retail investors leading the charge.

According to the Association of Mutual Funds in India (AMFI) data, this trend is mirrored in India, where between FY18 and FY23, the AUM of Indian passive funds grew from ₹83,000 crore to ₹7 lakh crore, a CAGR of 54 per cent. In FY23, the total AUM of passive funds grew by 34 per cent, in contrast to the overall AUM growth of 5 per cent.

For India, cheap money has been a key driver of foreign investment flows (see chart). In our view, while enabling factors such as stable government policies, domestic demand for consumer products, and robust macro fundamentals have helped, cheap money may also have been an important driver behind these flows.  

Total FDI inflows in the country in the last 23 years (April 2000-March 2023) were $919 billion while in the last nine years (April 2014-March 2023), they were $595.25 billion, which amounts to nearly 65 per cent of total FDI inflows in the last 23 years. India had the highest ever annual FDI inflow of $83.57 billion during FY 2021-22, according to Government of India data on Investments.

When private capital was cheap, companies could delay going public, with private market investors potentially capturing much of the gains in the process. According to the official data, as on May 31, 2023, India had 108 unicorns with a total valuation of $340.80 billion. The years 2021 and 2020 saw the birth of the maximum number of Indian unicorns with 44, and 11 unicorns, respectively. Globally, 2020 and 2021 was the time of maximum monetary stimulus, and more than 50 per cent of India’s unicorns were created during these two years. 2022 and 2023 have been relatively quieter in comparison.

Towards custom portfolios

What now, as cheap money comes to an end ?

As private capital becomes more costly, companies return to IPOs and public markets as a financing mechanism, providing more access to growth opportunities for retail investors. According to the recent EY Global IPO Trends 2023 report, India is leading the global IPO activity in terms of the number of issuers, representing >15 per cent of the total number of IPOs across all markets. By proceeds, India is only behind China and the US.

Besides, under monetary policies that are tighter, we expect growing demand for custom portfolios and thematic investments, as investors become more discerning and expect product providers to tailor products according to their preferences and demonstrate more value for the fees they pay. We also expect renewed demand for traditional investment products like money market funds, inflation protection instruments, and actively managed equity and bond portfolios.

(The writers are, respectively, former Director, Capital Markets Policy and Senior Manager, Capital Markets Policy, India, CFA Institute)

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