Mumbai: Net investment by foreign institutional investors (FIIs), the main driver of the Indian stock market, has hit a new high even as its benchmark equity index, the Sensex, is trading 756 points away from its peak. The index rose 72.20 points, or 0.36%, to close at 20,117.38 on Monday.
At the end of Monday’s trade, FII investment in Indian stocks, net of sales, this year totalled $17.96 billion (Rs 80,820 crore), the highest in the 17 years since the country allowed their entry, crossing the previous highest inflow—$17.78 billion—that came in 2007.
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This amount includes the provisional figures of FIIs’ net purchase of Rs 1,136 crore, or $252.52 million, on Monday.
Fund managers say cheap money abroad and lack of other high growth options are the key factors that are driving the inflow into Indian stocks. Most believe that the flow will continue as investors seek more growth opportunities in equities, given the low interest rates, especially in developed market fixed-income securities.
India’s robust economic growth indicators such as 8.5% estimated growth in gross domestic product for fiscal 2011 and 20% estimated company earnings growth have helped attract overseas money.
Ullal Ravindra Bhat, managing director of the Indian arm of Dalton Strategic Partnership Llp, a global fund registered as an FII in India, said, “The near-zero interest policy and quantitative easing measures in the US have raised the level of liquidity, which is finding its way into emerging markets, including India.”
Though inflows have reached a peak, the Sensex has not been a great beneficiary: This year it has gained only 15% unlike in 2007, when it rose 47%. But even then it is the best among so-called Bric (Brazil, India, China and Russia) countries.
With stock prices moving to a higher base, the rise in equity values is relatively muted. Besides, a chunk of the flows has gone to the mid-cap stocks, analysts said.
According to Murali Krishnan, head of research at Ambit Capital Pvt. Ltd, a Mumbai-based brokerage, FII flows were more dispersed this year, as many mid-cap stocks with better valuations attracted flows. “The recent surge though has been led by large-caps over the past few weeks,” he said.
In 2009, the Sensex rose higher on a similar amount of flows as it came off a low base, he said. In 2009, when FIIs returned with flows of over $17.64 billion, the Sensex gained 81.03%, its second highest annual rise in history.
As the subprime crisis deepened in the US, followed by the collapse of US investment bank Lehman Brothers Holdings Inc. in September 2008, foreign investors sold Indian stocks worth at least $12.2 billion net of buying and the Sensex lost 52.45% in 2008.
Analysts say the overall outlook for inflows continues to look good as interest rates in the developed world are expected to remain low. Even though valuations of Indian stocks are no longer cheap, growth rates of over 8% for the economy are justifying the premium for investors. “Investors abroad are ready to pay a premium for growth and India is one of the most attractive destinations because of its growth record,” said Sanjeev Patni, president of Prabhudas Lilladher Pvt. Ltd.
“Indian markets have outperformed most of their peers this year and that has attracted more inflows as investors do not want to miss out on such high returns compared to the returns in developed markets,” said Bhat of Dalton Strategic Partnership. According to him, for most global funds, India is an overweight destination.
Bhat, however, cautioned that the rise in share prices does not seem to be justified by fundamentals, as the India growth story is already priced in. “We are seeing initial signs of a bubble forming,” he said.
Indeed, Indian equities are not cheap. The 50-stock Nifty index of the National Stock Exchange is trading at a multiple of nearly 19 times its estimated earnings for 2011, higher than its historical average of around 15.
Still, the price-earnings multiple of all the stocks in this index is below the highs they reached in the previous bull market rally. Fund managers also point out that Indian firms are still under-owned and there is scope for more foreign buying. FIIs hold an average of 12% share in BSE-500 companies, which account for 93% of the market capitalization on the Bombay Stock Exchange.
Analysts warn of a correction as many investors who do not understand Indian stocks are excited by the macro story and are hence buying exchange-traded funds (ETFs) to participate in the equities market. This could mean that they can redeem them at the slightest sign of a climbdown.
ETFs are securities that track a basket of assets or commodities (in most cases, an index such as the Nifty) and can be traded like an ordinary stock on an exchange.
“The sustainability of the flows to India would depend on risk appetite for developed markets as well as for China. If allocation for equity markets in the developed world or China goes up, India could see a drop in inflows,” said Singapore-based Parul J. Saini, director at Royal Bank of Scotland Asia.
“It is hard to say when we reach the tipping point, but once foreign investors start booking profits, we could see a major correction,” Bhat said.
Incidentally, the government last week raised the limit of investment by FIIs in the debt market by a total $10 billion in government and corporate bonds.
The move will take the total that FIIs can hold in the debt market at any time to $30billion—$10 billion in government and $20 billion in corporate bonds.