Markets On Fire

Foreign Institutional Investors (FIIs), one of the most potent forces in the Indian equity market, have invested a little over Rs.77,000 crore year till date in the Indian equities. This is the first time since the start of the year 2008 that 12 months in a row FIIs have pumped in money in the Indian equity market. The year 2014 also has the distinction of the highest ever FII inflows in the first eight months of any calendar year. This investment has come to over and above Rs1.12 lakh crore already invested by FIIs in the year 2013 and record investment of Rs.1.27 lakh crore in 2012.

Although it is still debatable to what extent FIIs influence the Indian equity market, with their mighty financial muscle power they play an important role in deciding the direction of the Indian stock market. It’s not only the foreign money that is flowing into the Indian equity, even Indians are pouring in money. This is evident from the net investment done by mutual funds. Year till date (up to August 2014), mutual funds have made a total investment of Rs.4,046 crore after remaining on the sidelines for the last two years where they saw a net outflow of Rs.41,770 crore cumulatively.

This is also substantiated by the data provided by CAMS, a company which aggregates 91 per cent industry data in its data bureau services. According to this information, the industry sawRs. 15.8 lakh new SIP registrations in 2013. In 2014, the industry has already registered Rs.13.08 lakh new SIPs and this is likely to increase further. Moreover, recent data by the Association of Mutual Funds of India (AMFI) showed that HNIs folios in equity funds have increased considerably.

So what are the factors that have helped India to attract such investment and the bigger question is how sustainable is this flow and what does this mean for retail investors? Contrary to the common belief that it is FIIs’ money power that pulls up the market, various research reports show that it is the other way round and it is better return that attracts foreign money. The Indian equity market has given one of the best returns among the MSCI Emerging Market Index. For the first eight months of 2014 the MSCI India Index has provided a return of 26.11 per cent, second only to the Indonesian Index that has given return of 29 per cent.

The most prominent reason that has helped the Indian equity market to perform is change of guard at the centre that helped to build confidence in the Indian market. According to Lalit Thakkar, Managing Director, Institution , Angel Broking, “The markets have witnessed a significant run-up after the positive election mandate has come through, leading to expectations of the capex cycle picking up, domestic demand catching up and revival of corporate earnings that shall re-rate the earnings cycle.”

THE ATTRACTION FACTORS

So far so good! However, we believe that going forward institutions will continue investing in Indian stocks. What will also help is expansion in GDP growth rate, which has already shown signs of improvement and for the quarter ending June 2014, has risen to 5.7 per cent – the biggest jump in nine quarters. Besides this improvement in the government financials, the lower fiscal deficit and current account deficit will help build confidence among investors. Dipen Shah, Head- Private Client Group Research, Kotak Securities, says, “FIIs are waiting for further fiscal initiatives before they start putting in more money. So we believe that FIIs will invest more once they see implementation of the fiscal reforms in the months to come. We believe that the FIIs are not negative on India but they are in a wait-and-watch mode.” We feel that the first 100 days of the government has clearly exhibited the intention of the government and shows that economic initiatives taken will push us into a higher growth trajectory. What will also make India attractive for the FIIs is the price of crude oil, which is currently trading at a 13-month low. As import of crude oil consists of almost one-third of the entire import basket, reduction in crude prices will further help to improve government’s balance-sheet.

VALUATIONS

Cynics will argue that after such a huge run-up in the stock prices the valuations are now stretched. From a valuation perspective, the Sensex is trading close to 15.7 times on a price to earnings (PE) multiple basis which is close to the long-term averages. In terms of price to book value (PBV) it is currently trading at around 2.7, which again is close to long-term averages. The peak valuations of Sensex were at close to 25.5 times and 4.2 times on a P/E and PBV basis respectively. So,if one assumes that the corporate earnings shall grow in excess of 18-20 per cent over the next few years coupled with strong government reforms and policy formulations, the Indian markets can trade at higher valuations from the current levels they are trading at. Shah elucidates that “the higher- than-average valuations will look justified once we start seeing more economic reforms from the government.” Even if we compare our valuation with other emerging markets, it looks on the higher side of the band. Says Thakkar, “One year forward P/E ratios of emerging markets like South Africa are trading at 15.23x, Indonesia at 16.2x, Malaysia at 16.5x and Thailand at 14.5x. Only Brazil at 12x, Russia at 5.6x and China at 8.7x are trading cheaper in relative terms. However, the Brazilian and Russian economies being commoditized are also vulnerable to the extent of dependence of the price correlations of their key commodities with GDP growth. So the Indian markets with a stable government and expectations of policy reforms is placed relatively better compared to the other emerging market counterparts.”

TRENDS IN INSTITUTIONAL HOLDING

To understand which are the stocks and sectors that are the favourite of institutions including both FIIs and DIIs, we analysed the shareholding pattern of the BSE 500 Index that accounts for around 94 per cent of the market capitalisation of the Bombay Stock Exchange. Our study period was between the start of FY14 till June 30, 2014.

The company that has witnessed the highest jump in institutional holding is Aban Offshore. Its total institutional holding at the end of June 2014 stood at 31.61 per cent, up from 12.06 per cent at the end of March 2013. This is followed by Astrazeneca Pharmaceuticals wherein institutions have increased their holding to 16.26 per cent. What is also interesting is that in the last six quarters starting June 2013 there is an increase in institutional holding every quarter. The other major companies where institutions have increased their stake is SKS Microfinance, Linde India and Suzlon. When it comes to FIIs, UPL, which was earlier known as United Phosphorous, remained their top pick. The FIIs have increased their stake from 32.07 per cent at the start of FY14 to 48.59 per cent at the end of June 2014. Following them is Persistent Systems and PVR. For domestic institutional investors, besides Suzlon and Aban Offshore, the stake has mostly been increased in Praj Industries and HSIL.

CONCLUSION

We believe that India in on cusp of change after new government assumed power at the centre. The institutional money and especially FIIs were pouring money in the Indian equity market even when India was faring bad in all the macro-economic parameters whether it was economic growth, government finances or external value of Indian rupees. Now when things have stabilized and have started to show early signs of recovery, we do not find any reasons why India will not be able to attract more smart money. Our analysis shows that most of time there is direct correlation between increase in the share of institutional shareholding in a company and its share prices. For retail investor, tracking where institutions are investing may be a starting point to research about the company and invest on them. The best strategy is to pick early where institutional holding is increasing and then invest on those shares.