FIIs’ Selling Spree and Its Influence on Indian Markets

In last couple of weeks, we are seeing sudden divergence in the performance between world equity markets and the Indian equity market. While just a few months ago, we were experiencing bullish trends with seemingly endless upward momentum, nevertheless in the recent weeks have seen a sharp downturn, reminiscent of an impending crash. Interestingly, this downturn is occurring despite most developed and emerging markets hitting new all-time highs, and global cues not indicating any significant cause for concern. Last week saw some support to the market from unexpected corner after Amit Shah on Monday expressed optimism about the future of the Indian stock market post the results of the Lok Sabha Elections. However, it is too early if we have reversed the situation.

At the heart of this continuous fall lies the relentless selling of domestic equities by Foreign Institutional Investors (FIIs). In the entire month of May, FIIs are net sellers every single trading day. Month till date (MTD) May 14, 2024 FIIs have offloaded domestic equities worth a staggering `33,539 crore. This is after similar amount was sold in the month of April 2024. The question that naturally arises is: what is driving this sudden change in FII behaviour?

Multiple factors contribute to this phenomenon, yet one significant reason stands out prominently. As discerning readers who closely follow this space may recall, we previously underscored the potential for a surge in selling activity by FIIs owing to amendments in the tax treaty that could impact FII inflows. Specifically, an amendment to the Double Taxation Avoidance Agreement (DTAA) between India and Mauritius introduced the Principal Purpose Test, which has the potential to nullify the ‘grandfathering’ provision. This alteration exposes investments made even before 2017 to fresh scrutiny, a foresight that appears to be unfolding as FIIs implement their selling strategies in the domestic equity market. Historically, we have observed that following such regulatory actions, selling by FIIs tends to persist for a considerable period, contributing to a downturn in the market. Furthermore, lingering uncertainty about the election outcome, previously perceived as a foregone conclusion, compounds investors’ apprehensions.

Is it necessary to fret over the FIIs’ selling activity and contemplate following suit? From my perspective, the concerns surrounding the election outcome or the impact of regulatory amendments on net inflows seem overstated. While there may be some profit booking occurring, the overarching trend suggests that FIIs are primarily engaged in purchasing in the primary market and selling in the secondary market. If you look at the break-up of FPI outflows in April 2024 to the tune of USD 1.04 Billion, there was an infusion of USD 1.76 Billion into the IPOs. If FIIs were truly turning bearish on India, we would expect a reduction in their participation in the primary markets as well. However, the data suggests otherwise. Furthermore, analysis of ETF data reinforces this perspective, indicating no dedicated selling in Indiafocused foreign ETFs like iShares India ETF, which continue to witness inflows. Conversely, emerging market (EM) ETFs are witnessing outflows. Therefore, it’s advisable for investors to exercise patience and refrain from attempting to time the market, recognizing that FIIs may have entirely different motivations for selling in the secondary market.

Another aspect that may not be working in our favour is the outcome of the quarter ending March 2024. While the results are positive, they lack the sparkle needed to justify the current valuation premium. In our latest cover story, we have meticulously analysed the Quarterly Results for March 2024 across all significant sectors. This analysis aims to provide insights into emerging opportunities and areas where the results fall short of expectations.

As we navigate these turbulent financial waters, it’s essential for investors to stay informed and resist hasty decisions based on short-term market fluctuations. Our comprehensive analysis aims to equip you with the insights needed to understand deeper market dynamics and make judicious investment choices.

RAJESH V PADODE
Managing Director & Editor