The bulk of flows into Indian equities this year from overseas as well as domestic institutional investors could be passive in nature, a report by Kotak Institutional Equities said.
The brokerage considered the investment through the SIP mode in mutual funds as a form of passive investment. SIPs are systematic investment plans, which are typically auto-debited monthly from investors’ salary accounts.
The report said domestic flows have largely been dominated by ‘passive’ or SIP flows. Gross SIP inflows into mutual funds in the first five months of the year stood at Rs 703 billion, higher than total net inflows of Rs 577 billion, it said.
According to the brokerage, net inflows from overseas exchange traded funds (ETFs) stood at $3.3 billion in the first four months of the year versus $939 million of non-ETF flows.
The trend of passive flows would have continued in May and June, the brokerage said, given the large net FPI inflows of around $400 million on the MSCI rebalancing day (May 31).
FPIs have cumulatively pumped in about $6.5 billion in the year to date.
“In our view, the strong passive FPI inflows into India in recent months may simply be driven by the top-down excitement of foreign households around India and the expectation of certain returns, which may or may not materialise in the future,” the report said.
“Similarly, large SIP inflows into mutual funds may reflect expectations of certain returns of domestic households related to returns from other asset classes and/or historical returns from equities,” said the Kotak report.
The large passive flows into India by FPI investors and Indian equities by domestic investors would suggest expectations of decent returns (expected returns) among passive investors, it said.
However, the rich valuations of most stocks in the consumption and investment sectors would logically suggest an unfavorable reward-risk balance, with a higher probability of low returns in the future, according to the brokerage.
“India’s equity market is driven largely by FPI flows, especially through the passive index flows. The pause in Fed’s rate hike cycle has helped improve global risk appetite and India has been one of the beneficiaries,” said said Pratik Gupta, CEO & Co-Head, Kotak Institutional Equities.
India has benefited due to its strong macro-economic outlook and corporate earnings growth, which is expected to record a 14-15% growth in FY24 and FY25, which is quite attractive relative to other emerging markets, especially relative to China.
“Valuations are now somewhat expensive, which may cap further upside in the short term but the long term outlook India is still very attractive,” said Gupta.
The Nifty 50’s P/E premium to emerging markets has expanded from 45-50% to the 60-70% range. However, the index’s forward P/E ratio is still 10-15% lower than the valuation at the end of 2021 thanks to an extended time correction.
“We believe that with the confidence on economic growth, inflation control and profit growth improving, chances of a material correction have reduced and probability of a steady upmove has gone up,” said Rahul Singh, CIO – equities, Tata Asset Management.