Global equity markets need a reality check, and the International Monetary Fund (IMF) is more than happy to provide it. After cutting its global growth outlook, IMF set forth key risks to growth.

Its prognosis was that asset prices are still stretched and the recent rebound in markets has further distanced them from fundamentals.

Recall that equity markets experienced a meltdown in the final quarter of 2018 only to rebound smartly in the first three months of 2019.

“The tightening in financial conditions in the fourth quarter of 2018 was too short-lived to meaningfully slow the buildup of vulnerabilities, leaving medium-term risks to global financial stability broadly unchanged," said IMF in its Global Financial Stability Report.

While asset prices don’t reflect US realities, emerging markets (EMs) are happy recipients of dollars after the US Federal Reserve’s surprising pivot regarding rates. While dollar flows are unlikely to dry up given that most central banks are still willing to shoulder the liquidity burden, they may alter course.

IMF said that the dollars flowing into EMs are rather fickle: A large chunk is benchmarked to index funds. Such monies typically chase returns, and have swiftly turned around in the past.

It estimated that 70% of investors’ country allocations are influenced by benchmark indices. This echoes the recent fund manager survey by Bank of America Merrill Lynch.

Should India be worried? Inflows to the Indian equity and debt markets have seen a resurgence in recent months. In March, foreign funds poured $6 billion into equities, the highest in six years. Flows into debt totalled $3 billion. Thanks to these, the balance of payments would look way better than previous quarters.

The Reserve Bank of India (RBI) has forex reserves of $412 billion, should the need arise to stem volatile flows. According to forex strategists at Bank of America Merrill Lynch, the central bank’s move into three-year forex swaps has cushioned debt returns. “The flow picture for Indian debt should continue to hold up in our view as the RBI has announced another three-year FX swap auction and its stance on liquidity management has become proactive," it said in a note.

Equity flows, though, are another matter. They depend on the general sentiment towards EMs. India can ill afford a sharp turnaround in flows that may threaten stability even as the country traverses political uncertainty owing to the ongoing national elections. Therefore, it would pay to heed IMF’s warnings on the ebbs and flows.