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Indian households flee to safe investments, with some topping up on equity

The Nifty 50 index is down about 25% from its highs in February. (Hemant Mishra/Mint)Premium
The Nifty 50 index is down about 25% from its highs in February. (Hemant Mishra/Mint)

  • One disturbing data point that has come out is that there have been withdrawals of 8,000 crore from the government’s provident fund schemes since the lockdown
  • In February-April, currency with the public rose by 2.06 tn, a sharp rise over the 1.08 tn increase a year ago

The financial markets have been highly volatile in the past three months. This has prompted a flight-to-safety with investors rushing to assets that are perceived as relatively safe.

The Nifty 50 index is down about 25% from its highs in February. Bonds, on the other hand, have delivered positive returns for investors.

How have Indian individual investors responded to the increase in market volatility owing to covid-19, as well as the divergence in equity and debt returns? While there is certainly a flight to safety towards assets that preserve capital and provide better liquidity, there were some contrarian bets as well.

Interestingly enough, relative to other asset classes, net flows into equity mutual funds and exchange-traded funds (ETFs) recorded the highest growth in the three months between February and April. The net inflows stood at about 49,600 crore in this period, compared with 32,700 crore in the same period a year ago, a growth of 55%.

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Flows through systematic investment plans were sticky, and contributed on average about 8,500 crore each month this year to flows. And, importantly, redemptions haven’t been as high as some had feared for a volatile equity market.

“Employment contracts typically take time to adjust to economic distress, and the pain of layoffs and wage adjustments may not yet have fully played out. On an aggregate level, therefore, households are likely accumulating excess liquidity, with expenses having come down substantially during the lockdown. Some of this excess liquidity, coupled with the tendency among some investors to take a contrarian call when equities correct, could be behind the increase in allocations to equity mutual funds," says Tarun Ramadorai, a professor of financial economics at Imperial College, London, with research interest in household finance.

“It’s good for investors to be aware of the increase in uncertainty while making investment decisions. Retail investors might be tempted to rush in where others fear to tread; but given that the economic consequences of the crisis are yet to play out, it might make sense to focus on less risky assets given that their labour income has undoubtedly become more risky," adds Ramadorai.

Indeed, apart from this quirk of an increasing affinity for equities, there has been a massive flight to safe assets. Reserve Bank of India data shows that the outstanding value of time deposits rose by 3.57 trillion between end-January and 24 April. Flows into time deposits stood at 2.68 trillion in the same period last year, and 2.48 trillion in the year prior. The growth in flows to fixed deposits this year, at 33%, is far higher than the 8% growth in 2019. Time deposits largely consist of fixed deposits, and a portion of savings deposits that are considered sticky.

“The rush to fixed deposits can be attributed partly to a fear of credit losses associated with other debt instruments, besides a desire for liquidity. Accessing funds from a bank during a lockdown will be seen relatively easier than, say, a debt mutual fund during a lockdown," says Jayanth R. Varma, professor of finance at Indian Institute of Management, with research interest in the area of financial markets.

Ashutosh Khajuria, executive director and chief financial officer, Federal Bank, says, “People are not able to spend beyond essentials, and excess funds are lying in accounts. Also, given the uncertainty, the preference is to park funds in short-term safe bank deposits, which give a steady return,"

Of course, with bank deposits, investors may end up with lower returns vis-a-vis other asset classes. “The risk of being heavily invested in fixed deposits is being locked up at low interest rates, especially if inflation surprises on the upside," says Varma. But clearly, many households are keen on return of capital, rather than return on capital.

Talking of the desire for liquidity, currency with the public increased by 2.06 trillion in the past three months, which is an unusually sharp rise over the increase of 1.08 trillion a year ago. While flows into bank deposits and equity mutual funds have increased, there has been a huge flight out of debt mutual funds. Liquid and money market funds had outflows of 1.1 trillion. And lest you think this typically happens during a financial year-end, note that in February-April last year, these funds had net inflows of 20,300 crore.

Likewise, other debt funds (excluding gilt funds) had outflows of 82,000 crore in the past three months against inflows of 15,400 crore a year ago. While returns of most debt funds have been far better than equity funds, a sudden closure of six debt fund schemes by Franklin Templeton has worsened the perception of Indian debt mutual funds. The outflows have been in fund categories where the level of credit risk is relatively higher.

The lockdown has also impacted fresh flows into insurance firms. New business premium of life insurers fell 39% year-on-year to 18,000 crore in the past three months. Likewise, purchase of gold fell about 36% in January-March because of curbs. Investment-related demand for gold has risen. Real estate transactions have practically come to a halt.

Aggregate flows data hides the fact that trends will vary among income groups. One disturbing data point that has come out is that there have been withdrawals of 8,000 crore from the government’s provident fund schemes since the lockdown. This is 10 times the usual amount of withdrawals. Some of this may be driven by a need to shore up liquidity; but for some households, covid-19 is already causing them to dip into retirement savings. For them, it is more about a fight for survival, rather than a flight to safety.

(Aparna Iyer contributed to this story.)

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