Mumbai: Foreign ownership in listed Indian firms has reached a peak and is expected to rise further as corporate profitability grows, analysts said, although factors such as high inflation and corruption may make some overseas investors a tad wary.
Foreign institutional investors (FIIs) raised stakes in a majority of companies and their aggregate shareholding in firms comprising the 50-share Nifty index on the National Stock Exchange rose to 17.88% in the quarter ending December, the highest since Indian markets opened up to foreign investment in 1993.
The previous high for Nifty firms was in March 2006, when aggregate FII shareholding was 17.84%.
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Foreign investors invested a record $28 billion (Rs 1.28 trillion) net of sales in 2010 in the world’s ninth largest equity market, attracted by robust economic growth. A 17% return on Indian stock indices in 2010 was the highest among the top 10 equity markets of the world.
Strong corporate earnings growing at the rate of 20% on the back of an economy driven by domestic demand and growing at 8.75% had made India the top investment destination in 2010.
As emerging markets continue to grow at a faster rate than their developed peers, they are likely to attract higher investments. India, the second fastest growing major economy in the world after China, would be one of the major beneficiaries of such flows, say analysts.
“I do not think that we have seen the peak in terms of FII ownership as we would continue to see more inflows,” said Nischal Maheshwari, head of research at Edelweiss Securities Ltd.
To be sure, although the growth potential of India remains intact, it is susceptible to correction as it’s trading at a premium to other markets. The Sensex, the bellwether equity index of the Bombay Stock Exchange, is trading at 18 times forward year earnings at a 50% premium to the MSCI Emerging Markets index.
Fears that high inflation and rising crude prices would crimp growth and corporate profitability have added to concerns over political governance and spooked foreign investors.
“Even after the recent correction, Indian markets remain among the most expensive emerging markets and concerns over twin deficits (fiscal and current account deficit) and corruption have made investors wary at this point,” said Nick Paulson-Ellis, country head, India, at Portuguese investment bank Espirito Santo.
For the first time since May, FIIs turned net sellers of Indian equities, selling $900 million in the first fortnight of January. In a market where domestic institutions have not been major buyers in recent times, the moderation in foreign flows has led to a decline in stock prices.
Indian markets have underperformed emerging market peers by nearly 10% in the past three months. While the MSCI index rose 3.8% during this period, the Sensex fell by 6.18%.
“Short-term concerns over inflation and some amount of profit-booking as investors look to increase exposure to other markets means that India might see a moderation in flows,” said Sanjeev Patni, president, institutional equities, Prabhudas Lilladher. “However, seasoned foreign investors are not selling off yet.”
The flow of foreign funds to Indian equities has been quite broad-based, with FII shareholding rising in companies of all sizes and across most sectors.
Among the Nifty firms, 24 of 42 that have declared shareholding patterns so far have seen FII shareholding rise in the December quarter. The trend in the broader market was similar.
A Mint analysis of 366 of the BSE 500 firms that have declared their shareholding pattern shows that 220 among them have seen FII holding rise in the December quarter.
Nifty comprises the 50 most liquid stocks traded on the National Stock Exchange. The BSE 500 accounts for 93.5% of the market capitalization of the exchange. Listed firms disclose their holding patterns every quarter to the exchanges.
The aggregate FII shareholding in 272 firms in the BSE 500 universe for which past data is available rose to 14.5%, the highest level ever for this set of firms. There were no clear sectoral favourites, with mixed trends in FII investments in most sectors.
Defensive sectors such as fast-moving consumer goods and pharma saw an increase in FII shareholding. So did metals and large software firms, which are expected to have better earnings growth this year. Telecom service providers also saw an increase in FII investments on the expectation that the worst is over for the sector.
The banking and financial industry, which has been an FII favourite for the past few quarters, saw some selling. FIIs lowered their stake in most non-banking financial companies and in nearly half the bank stocks.
HDFC Bank Ltd and ICICI Bank Ltd saw a decline in FII shareholding, while Canara Bank and IndusInd Bank Ltd saw a significant increase.
“FIIs have been overweight on this sector and right now the outlook doesn’t appear too bright with fears of margin contraction and concerns on asset quality,” said Ullal Ravindra Bhat, managing director of the Indian arm of Dalton Strategic Partnership Llp, a global fund registered as an FII in India.
Most construction firms saw FII stakes coming down in the December quarter as an expected pick-up in the sector failed to materialize.
Among Nifty firms, Power Grid Corp. of India Ltd, which saw the stake of FIIs rise 10.4% to 12%, was the biggest gainer. Auto firm Mahindra and Mahindra Ltd, which had a 2.2% rise in FII shareholding to 25.3%, and Hero Honda Motors Ltd with a 1.7% rise to 33.4%, were the other major gainers.
Kotak Mahindra Bank Ltd, Reliance Capital Ltd and Sesa Goa Ltd were the only Nifty firms that saw a decline of more than 1% in FII shareholding.
The trend in foreign inflows in the months to come will depend largely on whether macroeconomic concerns such as inflation abate as well as on policy initiatives in the national budget to be tabled in Parliament next month.
“Many investors will be waiting for policy cues to determine the next course of action, particularly around the budget. Policy reforms including further petroleum product deregulation and higher limits for FDI in sectors like retail and insurance can act as triggers for the market,” said Paulson-Ellis.