Local funds swell but foreign cash still holds sway

Despite the growing significance of mutual funds (MFs) in domestic equities, foreign institutional investors (FIIs) continue to have more influence in deciding the market direction.

An analysis of rolling threemonth investment by FIIs and MFs shows benchmark Sensex on BSE dances more to the tune of the former.

To illustrate, FIIs pumped in ~44,220 crore in the three months ending March; the Sensex rallied 11 per cent. In the previous quarter ending December 2016, foreign investors had pulled out ~31,222 crore and the Sensex fell four per cent, despite MFs pumping in ~32,083 crore. Similarly, in the three months to February 2016, the Indian market dropped 12 per cent despite MFs pumping in ~17,818 crore; FIIs had yanked nearly ~20,000 crore out during this time.

If one compares rolling three-month or six-month FII and MF flows since 2014 (when MFs became dominant investors), it is evident that market returns are more correlated to flows from abroad.

“FIIs typically invest in quality stocks and are not very conscious of the valuations. Domestic investors are very value conscious. This makes them contra buyers, which is why they emerge as strong buyers when there is huge FII selloff. Also, FIIs stick to largecaps, as they want stability in their portfolio. Therefore, foreign flows have a more direct impact on the index movement than domestic guys,” says Ravi Sundar Muthukrishnan, co-head of research at ICICI Securities. (~ cr)

In both 2015 and 2016, domestic funds were strong buyers but the benchmark indices remained flat. In 2015, MFs had invested ~72,199 crore but the market fell five per cent; foreign flows remained tepid. In 2016, the markets ended unchanged even as MFs pumped in ~48,170 crore, due to lack of buying support from FIIs.

“The ultimate combination is where both FIIs and MFs are positive. If you go back in time and look at any period when both are on the buying side, the subsequent market performance has been very good. But, most of the time, one is at odds with the other. We are hoping this is one of the years when both are positive,” says Anup Maheshwari, head of equities at DSP BlackRock MF.

So far in 2017, FIIs have invested around ~42,000 crore, while MFs have bought shares worth a litle over ~21,000 crore, triggering a 13 per cent jump in the Sensex. The markets posted sharp monthly gains in February and March, amid strong foreign flows. The returns tapered in April, with tapering of foreign flows, though MFs remained strong buyers.

“FII investments largely depend on global risk-on and risk-off sentiment. This usually means they make a huge lump-sum investment when sentiment is positive and also take money off the table in a big way if the sentiment turns sour. They directly impact the market,” says another fund manager.