BackMarkets to continue uptrend as liquidity rules abound
Inflows from exchange-traded funds and mutual funds continue to fuel the rally, thanks to abundant liquidity
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Mumbai: Indian markets continue to be on the uptrend even as economic recovery lags behind, valuations look expensive and earnings revival remains elusive. Inflows from exchange-traded funds (ETFs) and mutual funds continue to fuel the rally, thanks to abundant liquidity.
On 9 August, BSE’s 30-share Sensex touched 28,289.96 points, its highest level since 10 August 2015, while National Stock Exchange’s 50-share Nifty rallied to 8,728.35 points, a level last seen on 16 April 2015.
Since then, Sensex and Nifty have erased 1.08% and 1.14% respectively as investors locked in gains. Meanwhile, BSE mid-cap index rallied to a record high of 13,063.08 points on Friday, but shed 0.63% since then.
Investments from foreign institutional investors (FIIs) account for around 40-70% of ETF inflows. The worry now is that if global developments turn adverse, such flows could reverse.
“Every market in the world needs to realise that huge liquidity is going to lead to a surge in asset prices, However, in a withdrawal situation, there can be a steep fall," said Deven Choksey, group managing director, KR Choksey Investment Managers Pvt. Ltd.
In a note on Thursday, CLSA Ltd said that higher ETF flows are likely to help large-cap stocks more.
“Notwithstanding the sluggish economic indicators, India has been witnessing increased FII buying," CLSA analysts Mahesh Nandurkar, Abhinav Sinha and Alok Srivastava said in the note pointing that FIIs have pumped in a net of $5.4 billion in Indian shares so far in 2016, compared with $3.2 billion in the same period in 2015.
“Our analysis of high frequency economic indicators reiterates that signs of economic recovery are not visible. Clearly, the market is moving on global liquidity cues and this is likely to continue as easy money chases emerging markets," CLSA analysts said.
“While India does not enjoy the preferred status within emerging markets (EMs) anymore (it underperformed EMs despite a good monsoon, GST and other factors), it will still get its share of inflows," they said.
Since April, around 40-70% of FII flows have come in through ETFs, CLSA pointed out.
Separately, in a note on 9 August, Kotak Institutional Equities pointed that for the year to date, EM-dedicated inflows into India saw $1.3 million coming in from ETFs, while there was an outflow of $357 million in the same period from non-ETF investors, according to data compiled by brokerage and market tracker EPFR Global.
“If the DM (developed markets) to EM (emerging markets) trade plays out, then higher FII inflows should ideally drive outperformance for large caps," CLSA analysts added.
Domestic brokers agreed that ETFs constitute a major portion of FII inflows, driving large-cap stocks.
“FII flows are largely from ETFs for some time now, and since those flows are continuing, they are likely to fuel the rally for large-cap stocks," said Vikas Khemani, president and chief executive officer, Edelweiss Securities Ltd.
“Valuations are looking expensive, but expectations from growth have been high too," added Khemani.
Sensex currently trades at 17.63 times 1-year forward earnings, at a premium of 22.7% compared with its 5-year average of 14.37 times.
“The valuations are challenging. The current rally in the market is a global one and most of the money that is flowing into our markets is ETF money," said Andrew Holland, chief executive at Ambit Investment Advisors Pvt. Ltd.
“Even for companies in the frontline indices that recorded disappointing results, we didn’t see the share prices falling much. That is because ETF money was flowing in. The flows will continue as long as liquidity continues. However, if the flows reverse, the same companies will be hit hard," added Holland.
Also, the BSE Mid-cap index has outperformed the large-cap Nifty index, by continued flows into domestic equity mutual funds and also into PMS (portfolio management schemes), CLSA pointed out.
While Sensex and Nifty have added 7% and 8.52%, respectively in the year to date, BSE mid-cap index rallied 16.54% in the same period.
BSE mid-cap index is trading at a record high valuation of 21.85 times 1-year forward earnings, at a premium of 33.33% on its 5-year average of 16.39 times.
While inflows from mutual funds into small and mid-cap stocks continued, they are on a declining trend.
Estimated net inflows into small- and mid-cap schemes in July declined to a six-month low of Rs.224.6 crore, Mint reported on 15 August, citing an analysis by Morningstar Investment Adviser India Pvt. Ltd, an arm of the US-headquartered mutual fund tracking and research firm. The balance of the total Rs.2,506 crore of equity inflows last month went towards large- and flexi-cap schemes, said industry experts and fund managers.
“This year’s inflows for mutual funds are more in balanced funds than in equity funds. To that extent, the mutual funds’ ability to buy mid-caps is moderated," said Nilesh Shah, managing director of Kotak Mahindra Asset Management Co.
“In mid-cap, there is hardly any selling. While buying may not be very high, the selling is missing," Shah added, explaining the continued rally in the mid-cap space.
Sure, the expensive valuation for the markets at large bothered everyone.
“Undoubtedly, we are in the expensive zone. Unless and until you are a long-term investor, market can surprise you," said Shah.
“Flows are more than the supply of paper, and that is supporting prices. Sentiment improved because of good monsoon and passage of GST. Fundamentals are on their way up. However, one must remember fundamentals are little behind prices and they need to catch up," added Shah.
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