Foreign institutional investors (FIIs) now own Indian equities to the tune of $101 billion, the highest in history, according to data made available by the Securities and Exchange Board of India (Sebi).
As of 31 May 2011, FII ownership of Indian equities accounted for 16.9% of the BSE 500 market capitalisation. This is substantially higher than their $77 billion holdings a year ago, which accounted for 13.5% of the market cap. In other words, FIIs invested aggressively in India over the past year, at a time when Indian markets were considered one of the most expensive in terms of its price-earnings multiple.
The bulk of the FII money found its way into initial public offerings and follow-on offers by state-owned companies. Getty Images
Yet, over the past year, the BSE 500 index gained only 4.8% ; and the value of the Indian rupee has not changed significantly over this period.
So, where did all the money from the FII moneybags go?
The bulk of the FII money found its way into initial public offerings and follow-on offers by state-owned companies like Coal India, National Mineral Development Corporation, National Thermal Power Corporation, Infrastructure Development Corporation of India and others.
During 2010-11, Indian companies raised Rs 55,630 crore (or $ 12.4 billion) from new issue of shares, the highest amount raised in a financial year. This may account for why FIIs increased their exposure to India despite the relatively high index valuations.
The tide may be turning
But after that high water mark of last year, the trend of FII investments in Indian equities is already reversing. Even if they’re not pulling out money aggressively or putting out ‘sell India’ calls, market pundits reckon that the inflow could slow down.
“Indian allocation in Asia ex-Japan funds has fallen from peak levels of 12.8% in July 2010 to April 2011 levels of 10.8%,” says a note by Kotak Institutional Equities. FIIs use MSCI indices to track country- and region-specific performances. Their investment decisions are based on allocation of these indices.
Last month, a survey of fund managers conducted by Bank of America-Merrill Lynch noted that most fund managers are beginning to make allocations to emerging markets, but do not prefer India.
Over the past one year, the MSCI India index rose 4.4% while the MSCI Emerging Markets index gained 23.9% in value. That’s a sign that other emerging markets hold relatively better appeal.
According to Macquarie Capital, an affiliate of Australia’s Macquarie Bank, India’s strong domestic demand differentiated it from other economies during the 2008 crisis precipitated by the collapse of Lehman Brothers. However, going forward, consumption seems to be slowing down a bit and the investment cycle is yet to pick up, reflected in very low demand growth in cement and steel over the last few months.
“Another 7-8% dip can’t be ruled out,” Macquarie said in a recent India strategy note.
As the table below shows, the Indian equity market is doubly unattractive for a global fund manager: it is relatively expensive (in terms of the price-earnings multiple) and is an underperformer.
Even domestic investors appear not to be overly optimistic about Indian equities. Domestic mutual funds’ holdings in Indian equities stand at $45 billion, which accounts for about 7.5% of the market capitalisation. That’s declined a notch from 7.7% in May 2010.
“Mutual funds are investing more in companies that are less affected by rising input costs and high interest rates, while many are staying in cash to meet redemptions,” a fund manager at a Mumbai-based mutual fund said. In April 2011, domestic mutual funds witnessed a net outflow of Rs 1,365 crore. This means they remain net sellers in Indian equities.