How Nifty's dynamic with FIIs has changed

FII flows and Nifty50’s returns had a strong positive correlation in the past. Photo: Mint
FII flows and Nifty50’s returns had a strong positive correlation in the past. Photo: Mint


  • Domestic institutional investors have changed the dynamic between Nifty and foreign fund flows

Until recently, Indian equities saw brutal selling by foreign institutional investors (FIIs) amid the ongoing global economic concerns. Things changed for the better in July with FIIs making a comeback. So far in the month of August as well, FIIs have been net buyers of Indian shares.

FII selling has been part and parcel of the Indian stock market story. However, for some time now, because of the heavy lifting by domestic institutional investors (DIIs), the dynamics between the movement of the key Indian benchmark index Nifty and foreign fund flows has dramatically changed.

Breaking old patterns
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Breaking old patterns

FII flows and Nifty50’s returns had a strong positive correlation in the past, which has reversed in the last two years, according to an analysis by Motilal Oswal Financial Services Ltd. As the chart alongside shows, despite the FII selling spree, the Nifty50 index has not seen a decline in FY22 and FY23 so far. This was not always the case earlier.

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Fortunately, for India, the outlook on FII inflows is getting brighter. “A large part of interest rate hikes in India has already happened. Also, the worst of inflation is expected to be behind us. These factors put together are fuelling a turnaround in FII inflows," said Aishvarya Dadheech, director and fund manager at Ambit Asset Management.

However, Indian equities are not cheap. In fact, India is trading at a premium to its Asian peers.

The MSCI India Index is trading at a one-year forward price-to-earnings multiple of 19.51 times, far ahead of MSCI Asia Ex-Japan Index (11.46 times) and MSCI Emerging Markets Index (10.7 times), showed Bloomberg data.

India has higher earnings growth potential and even better macros, contended Deepak Jasani, head of retail research at HDFC Securities. Thus, despite expensive valuations, FIIs are likely to keep taking exposure in Indian stocks.

What’s more, the slowdown worries in China give India an opportunity to grab foreign funds. In July, emerging market funds have significantly increased their allocation to India to 19.7% from 18.1% in June, while allocation to China reduced, according to the latest BofA Securities report.

On the flipside, if recession fears were to actually play out, then FII flows may come under pressure again. Also, crude oil prices are a crucial monitorable for India’s economic health as the country is a net importer of this commodity.

Meanwhile, DII inflows are expected to be robust though they will be accompanied with bouts of profit booking.

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