FIIs diverting their investments to emerging economies

Having sold Indian shares worth close to Rs 5 trillion since beginning of this year, the overseas investors seem to be ploughing back the money to the bond market in India and abroad as well as equities in other emerging economies such as in Latin America.

After a sharp rally for the past few years, the Indian stock market has been under an intense bear grip since January this year, which has seen the total value of all listed stocks here plunging by more than a third or over Rs 25,00,000 crore.

Out of this, FIIs are estimated to have incurred a loss of close to Rs 3,00,000 crore, which is also equivalent to nearly one-third of their total holdings before the downslide began on the bourses.

FIIs are estimated to have sold shares worth more than Rs 4,70,000 crore so far in 2008. While the overseas investors have also purchased shares worth about Rs 4,40,000 crore in this period, on a net basis, they have pulled out investment worth over Rs 25,000 crore (over $6.5 billion).

In the wake of continuing negative global cues such as rising crude prices, bearish phase in international markets and domestic concerns like soaring inflation and moderating economic growth, the analysts expect FIIs to continue to remain net sellers in Indian equity market in coming months.

Although the experts are divided on where FIIs are diverting their investments, some believe they are getting attracted to equities in Latin America and bonds in the US.

"The FIIs are mostly covering their losses and investing in Latin American markets. With the currency appreciation and higher interest rate differentials, Latin America is increasingly becoming attractive for the foreign investors," leading rating agency Crisil's Principal Economist D K Joshi said.

Some analysts also believe that the overseas funds going back to their local markets.

"The FIIs are placing their bets safe. They are taking the funds back and investing in the US bond market. They are mostly booking profit and recovering losses," PriceWaterHouseCooper Executive Director Sanjay Hegde said.

Even in India, while FIIs have been net sellers in the equity, they have been mostly buyers in the bonds with a net investment of more than Rs 2,000 crore (over 500 million dollars) so far in 2008.

Economists feel an immediate reversal in FIIs' stance towards Indian equities is not expected soon because of the prevailing uncertainties in the crude market and the country's political scenario.

"With the crude predicted to touch 175 dollars a barrel and the Indian currency depreciation, FIIs will turn their focus to the commodity market which has emerged as an alternate asset class. They would prefer to stay invested in the commodity market and hedge against inflation," Crisil's Joshi said.

The analysts feel that a bounce back could be seen around December with the soaring oil prices likely to cool down by that time.

"With the reduced risk appetite of the FIIs and the Indian growth moderation, the foreign investors are likely to turn their focus back to India towards the end of 2008 when the political and crude related uncertainties are expected to tame down," Joshi added.

Analyse market conditions before investing

Markets have been in free fall mode from last couple of weeks. Both Sensex and Nifty have fallen almost 15 percent in last couple of weeks. Stocks of all sectors especially metal, real estate, auto and banking sectors went down quite badly in this correction . Negative news is pouring into the market from all the ends and as a result investors' sentiments in market are quite negative at the moment. These are some of the major negative news prevailing in the markets:

Crude oil prices:

Crude oil prices are going up without any control and have touched 145 dollar per bbl this week. Analysts are worried about the rate at which crude oil prices are going up in the international markets. Crude oil price has gone up 30 percent in last 1 quarter itself. There are many theories behind this sharp rise. Some analysts believe that the demand from emerging economies has increased sharply in last few years where as the crude oil production is near its peak. Others believe that the speculation and trading activities is driving the crude oil prices in the international markets as people are switching their funds from other investments to crude oil. Rising crude oil prices is one of the main sentiments dampener in Indian stock markets. India imports more than 75 percent of its crude oil needs. Since this sharp rise can not be passed quickly to the consumers it is resulting in surge of oil pool deficit for our country.

Heavy FII selling:

Foreign fund inflows were one of the major factors driving Indian markets in last 2-3 years have turned negative since the start of this year. Foreign institutional investors (FIIs) are selling big time in Indian markets this year. They have sold over 6 billion dollars stocks in Indian markets this year so far. Last year FIIs invested 18 billion dollars in Indian market. FIIs are nervous about the deteriorating global economic situation. Most foreign funds want to reduce their exposure in emerging markets during this uncertain period. Some FIIs are selling due to want of liquidity in their parent companies abroad. FIIs will be hesitant to invest fresh money till they see improvement in the macro-economic environment, political situation and global inflation rate. High Inflation, higher interest rates period: The prices of basic commodities have gone up quite significantly in last few months and hence we have seen high inflation almost all over the world. Inflation is quoting above 11 percent in our country from last couple of weeks. RBI is forced to take tough measures (Reserve bank of India (RBI) increased both the repo rates as well as Cash Reserve Ratio (CRR) in this week to get a control the rising inflation) to take control over the rising inflation. Banks have passed on this interest rate hike by increasing their prime lending rate (PLR). Analysts fear that this may significantly dent the economy growth in India. Political crisis:

Current political tug-and-war over nuclear agreement has added fuel to the negative sentiments in the market. Although in past markets looked unaffected by the political developments but situation is quite different now. Indian economy is going though tough phase and therefore any negative development on central government level may severely hit the market. We are entering into the crucial Q1'09 result season this month. Analysts and investors are carefully following the quarterly results and management talks of various companies/sectors to see the impact of various global events and government /RBI action on businesses . Investors should exercise caution in the market and make any fresh investment after analysis.

What’s melting the market......and the factors that could turn the tide

The latest corrective phase has many macro-economic facets — surging crude and commodity prices, double-digit inflation, rising interest rates and political uncertainties — that threaten to curb fund flows to India and pose a risk to earnings.

For investors who have survived various stock market corrections in India over the past four years, the recent one must have come as something of a shocker. With a 40 per cent slide from peak to trough, this meltdown has been sharper and more prolonged than any other corrective phase witnessed since the bull rally took off in 2003.
So what’s different this time? What, for instance, sets apart this market fall from the 30 per cent correction in 2006? Here’s a look at the patterns and trends in the recent market slide, and the fundamental and technical factors at play.

Challenging macro scenario
The recent corrective phase has many macro-economic facets to it — both global and local — several factors pose a potent threat to company earnings and fund flows into India.
While concerns arising from the US sub-prime crisis and the ensuing credit crunch threaten to curb fund flows to India, surging crude and commodity prices, double-digit inflation, rising interest rates and political uncertainty now pose a risk to earnings.
None of the earlier corrections saw the coming together of so many negative factors. In the August 2007 correction, limited to a 10 per cent fall, the factors at play were mainly global (sub-prime crisis). The 15 per cent correction in March 2007 was primarily caused by the Chinese market meltdown and the subsequent backlash of the yen carry trade. On both these occasions, the market slides were limited to under a month, by which time both the broad markets and FII investments had begun trending up.
The deeper correction in May 2006 shaved over 30 per cent off the Sensex’s peak value and was driven mainly by fund flows, rather than by fundamental factors. A 0.25 percentage point interest rate hike by the US Fed, with promise of more to come, prompted FIIs to reallocate their funds from ‘risky’ emerging markets to the stable developed markets. Interest rate fears also triggered a global sell-off in the commodity markets, leading global investors to book profits on metal stocks in emerging markets too.
This contrasts with the current scenario where global investors have chosen to divert their investments to commodities. So, while the correction of 2006 was driven by falling commodity prices (which are good for corporate earnings); this one is driven by rising commodity prices, which actually pose a threat to corporate earnings.
While the government has taken policy measures to rein in price inflation, the rise in commodity prices is a global phenomenon, triggered by tight supplies. Optimists can take comfort from the fact that in recent times, the indicators of industrial production in both India and China have begun showing signs of moderation; lower demand may ease demand pressure on commodities, while an unwinding of speculative positions may also trigger a correction.
Earnings slowdown

The fundamentals of India Inc today appear shakier than they were in 2006. There are signs from the recent IIP numbers that rising interest rates are taking a toll on industrial production; sales of automobiles and consumer durables have wound down on the back of dearer credit. In 2006, corporate India’s growth juggernaut was just beginning to gain speed; Indian companies notched up a 23 per cent growth in sales and 25 per cent growth in profits in 2005-06.
In contrast, India Inc’s earnings actually slowed in FY08, hit by higher oil and metal prices and rising interest rates. In FY08, companies recorded overall growth of 19 per cent in sales and 25 per cent in profits, lower than the 27 per cent sales growth and 41 per cent profit growth in FY07.
This growing consensus about a slowdown is corroborated by the recent downgrades in earnings estimates for Indian companies. But the question now is the extent of the slowdown. The prognosis for the market will depend on whether the current economic slowdown is merely “cyclical” or likely to prolong. Corporate earnings for the June quarter will be keenly watched and so will IIP numbers for the coming months.

Weakening rupee
The rupee was also a factor in the recent market correction. With stock prices already retreating, the depreciating rupee further trimmed dollar returns for FIIs. The year-to-date Sensex return, a negative 35 per cent, is a good 6 percentage points worse in dollar terms. Some of the FIIs’ new-found dislike for emerging markets may also be attributed to the unexpected appreciation of the dollar against most Asian currencies in recent months.
The outlook for the rupee, which is pegged partly to the capital inflows situation, currently looks weak given the widening trade deficit arising from an expanding oil import bill. With the European Central Bank recently hiking the benchmark lending rate by a quarter point to 4.25 per cent (seven-year high) and the Federal Reserve likely to follow suit, investing in Indian equities may become that much more uninviting.

Foreigners flee
While every major corrective phase in India over the past four years has been triggered by FII selling, this one stands out for the quantum of outflows and the prolonged FII apathy. If the stock indices fell by 30 per cent in May 2006 after FIIs pulled out Rs 1,630 crore, in January 2008 alone they took almost double that amount off the table.
So far, the FIIs have sold over Rs 6,312 crore in 2008. Besides, in the six months that followed the January sell-off, FIIs figured as net buyers in only two months (February and April), alternating their purchases with selling the very next month.
An interesting sidelight is that domestic mutual funds were aggressive buyers on both occasions in the first month of correction — both in May 2006 and Jan 2008. This time around, even the retail investors appear to have been bullish in the early part of the correction.
There is as yet no sign of redemption pressure on domestic mutual funds. With equity fund managers sitting on higher cash positions (10-20 per cent) and reasonable ULIP collections, domestic institutions can step in if the valuations appear attractive. But they may not have the wherewithal to compensate for any concerted withdrawal by FIIs.

Sweeping correction, but defensives escape
The recent fall, unlike its predecessors in 2007, 2006 or even 2004, has been more widespread and deep, in terms of individual stocks.
The 2008 correction may have caused more damage to retail portfolios. Sample this: In May 2006, just 17 out of 100 stocks fell more than 50 per cent, while 63 out of 100 fell 30-50 per cent. Now, over 53 per cent of the stocks have been reduced to half their values from their January highs and 31 per cent of the stocks have shed 30-50 per cent (till June 27th).
However, the recent correction has been more discriminating and sector-specific.
Sectors such as IT, FMCG and pharma, with defensive connotations, bucked the broad market fall to a large extent. The fact that these sectors were under-owned by FIIs may also explain this trend.
The previous three corrections left Indian market’s valuations at a big premium to the other emerging markets. Not so in 2008. Six months of ruthless selling in equities has led to a sharp drop in the price earnings multiple of the Sensex, almost levelling it with other emerging markets.
From a peak of over 28 times its earnings, the Sensex basket now trades at a modest valuation of over 16 (13 times forward earnings). Even though this is at a premium to some Asian peers such as Hong Kong (12.8 times), Singapore (10.72 times) and Taiwan (12.7 times), the valuation gap has narrowed significantly from its January highs.
Current valuations have also plunged below the five-year average of 18 times. With the recent meltdown dissolving the speculative froth, investors entering the market now may be at lower risk of a steep valuation ‘de-rating.’

Outlook
There’s been no dearth of negative news in recent months, keeping retail investors in a state of trepidation. But here are a few positives that suggest India may still be a fertile ground for long-term investments.
Net foreign direct investments into Indian companies have grown by over 82 per cent to $15.5 billion in 2007-08. A global survey of corporate investment plans by KPMG has forecast that India will see the largest growth in its share of foreign direct investment, becoming the world leader for investment in manufacturing in five years.
Private equity M&A targeted towards India has grown to $ 2.1 billion (52 deals) till April 2008, compared to $893 million in the year-ago period, according to Dealogic.
Interestingly, the report states in the same period, there has been a fall in the private equity investments in developed nations such as the US, the UK, Japan and Germany.
Buyback announcements from companies such as DLF, Reliance Infrastructure, Great Offshore and JB Pharmaceuticals are signals that companies consider their stocks undervalued. “Insider buys’ by the promoters of companies such as Marico, IDFC and PVR are also positive signals of promoter sentiment.
Large Indian companies have carried out a string of acquisitions (Spice-Idea, Ranbaxy stake sale, Tata Motors-Jaguar) in the recent past which could deliver disproportionate growth over the long-term.

The question of redemption

Due diligence must for MF investors who invest in equity schemes. Retail investors in mutual funds (MFs) have displayed surprising maturity, staying invested in equity schemes despite the sharp fall of the stock markets from mid-January. However, it is too early to conclude that Indians have graduated to becoming long-term investors in equity and equity MFs. Experience shows that retail investors panic whenever markets go into a tailspin, cashing out part of, if not all, their investment in equities and equity MFs. Such behaviour hurts investors and MF schemes. Also, liquidation of positions held by MFs only serves to further weaken sentiments in markets. The 11% decline in assets under management (AUM) of MFs in June from the May level was caused mainly by the fall in the stock prices and not by large scale redemption, a nightmare most fund managers fear when stock markets tumble. Redemption pressures were experienced by the liquid funds, as companies withdrew money for advance tax payments. As liquid funds are designed to be short-term plans, offering reasonable returns, withdrawals, which are seasonal in nature, should not be a cause for much concern. Well-managed equity MFs deliver reasonably good returns over a long term. While they would be affected by market volatility, investors could protect themselves by investing in schemes which suit their risk profile. For that, investors must make the effort to understand the objective of the fund, investment style of its portfolio manager and the bias of the fund. Investors must also be very clear about their investment objective and the period for which they would like to stay invested in a fund. Investors seeking stable, low-risk returns are better advised to keep a larger portion of their savings in debt schemes or conservatively managed/balanced equity MFs. The MF industry and its regulator, the Association of Mutual Funds in India, also need to take steps to keep the activities of asset management companies above board. Breach of their fiduciary role, such as manipulation of net asset value of schemes by fund managers, reported recently, could dent the confidence of investors in professional managers. They would do better to explain the constraints in which they operate to the investors rather than indulge in malpractices.

Taurus to launch portfolio management scheme

Taurus Asset Management Co Ltd plans to launch a portfolio management scheme later this month, its Chief Executive, Mr Waqar Naqvi, has said.

“We already have a license for the scheme. We will start in a small way with Rs 10-15 crore this month and scale up slowly,” Mr Naqvi told Business Line.

Mr Naqvi expects the scheme to take off in a big way in 2009-10. “Next year, we plan to have a separate team for the scheme,” he said. 

Plans are afoot to initially tap existing clients with enough exposure to mutual funds and are keen to diversify into portfolio management scheme. Mr Naqvi said that the client should essentially be a high net worth individual and be ready to place at least Rs 1 crore at the disposal of the portfolio manager. 

Mr Naqvi, who has been a chief executive of the company for about four months now, said that communication would form a strong pillar of his strategy for Taurus Mutual Fund. 

He said the team being built at the top was a very robust one with diverse background and good track-record. 

“You will see the first advertisement that I am going to issue very soon. We want to get positioned as an asset management company that keeps on innovating. Communication, innovation and reach will form part of the strategy (to boost assets under management). We are going to expand to 24 branches by March 2009 from seven. We also know that profits will not follow immediately,” he said.

Mr Naqvi said t Taurus Mutual Fund plans to launch a couple of fixed income products this fiscal. 

“There will be equity products also, but we are yet to crystalise which products. We have gaps in our product range on both sides —equity and fixed income. We will launch on both sides,” he said, adding the mutual fund may come up with a short term income fund in October or November this year.

Mirae’s fund to invest in Brazil, Russia, China firms

Mirae Asset Mutual Fund has filed offer document with SEBI for an equity-oriented fund that will invest in equities of leading companies having their primary activity in Brazil, Russia or China.

The proposed fund will invest 65-100 per cent in equities of companies operating in Brazil, Russia or China and listed on any recognised stock exchange, says the offer document. The fund will have the option of investing up to 35 per cent in Indian equities and equity-related securities or money market instruments, debt securities instruments.

The fund will be benchmarked against the MSCI -BRC (Brazil, Russia & China) Index. The RBI in April 2008 raised the overall overseas investment limit for the mutual funds from $5 billion to $7 billion.

Mutual funds make big purchase in June

They bought when markets corrected sharply

July 4 With net purchases of Rs 3,179 crore in June 2008, mutual funds have made their biggest purchases in the stock market since January this year, last month. 

The sharp fall in the equity values in June may have prompted mutual funds to indulge in ‘value buying’. In June, out of the 21 trading days, the BSE Sensex ended in the red on 14 days. 

Mutual funds have been net buyers on 16 of the 21 trading days this month. The index shed close to 21 per cent and during this period, the index PE multiple fell from 19.3 to 15.9. Mutual funds’ buying has also been evident on many days when the markets corrected sharply. 

For instance, after the June 4 correction of 447 points in the Sensex, MFs made net investments to the tune of Rs 547 crore the next day. Funds also remained net purchasers of stocks when market declined continuously for 5 trading days starting from June 18.

However, assets under management of mutual fund industry witnessed a 5.9 per cent drop in June, buckling under the pressure of the meltdown in the stock market and the slow growth in the fixed income schemes in the month. The BSE Sensex tumbled about 18 per cent from 16,415.57 to 13,802.22 in June, while the NSE’s S&P CNX Nifty crashed 17 per cent in June.

According to Association of Mutual Funds India data, the combined average assets under management of the 33 fund houses dropped to about Rs 5.65 lakh crore at the end of June compared with about Rs 6 lakh crore in May. 

FIIs have, however, been at the other side of the table, selling Rs 10,500 crore worth of stocks in June, which was the main cause for the stock to witness steep fall.