A sharp rise in outflow of funds by foreign portfolio investors between April and May due to rise in yields of the US treasury and growing concerns over rising crude oil prices, and its impact on the currency and current account deficit, have resulted in the biggest outflow of foreign institutional money in any calendar year in the last 10 years.
While the net FPI outflow in April stood at Rs 15,561 crore ($2.35 bn) and Rs 29,775 crore ($4.4 bn) in May, the aggregate for the first five months this year amounted to a net outflow of Rs 32,078 crore ($4.4 bn).
This marks the highest outflow seen in any calendar year since 2008, when FPIs pulled out a net of Rs 41,216 crore ($9.3 bn) from Indian markets amid a global financial crisis. The next big outflow was seen in 2016 when they pulled out a net of Rs 23,079 crore ($3.19 billion).
However, the FPI outflow this year is very different from what it was 10 years ago. In 2018, only 5 per cent of the total outflows (Rs 1,599 crore) has been from equity markets and the remaining from the debt market. In 2008, the net outflow from equities was Rs 52,987 crore while the debt markets saw a net inflow of Rs 11,772 crore.
According to experts, this is a significant reason why Indian equities have held their ground despite a sharp outflow of foreign institutional money over the last two months. The other major factor is the sharp rise in domestic retail participation in Indian equities through the mutual fund route over the last few years. While the net investment in mutual funds between January 2018 and April 2018 stood at Rs 41,765 crore, that in 2008 calendar year stood at Rs 25,412 crore.
“Indian equity unlike Indian debt is part of the global benchmark index, and there is a diversified flow of funds into Indian equities. Also, Indian equities have attracted funds for the long term and hence the FPI money in Indian equities is more stable,” said Nilesh Shah, MD, Kotak Mahindra Asset Management.
The concern, however, is on the debt front.
The growing outflow of FPI money from debt markets over concerns on rise in current account deficit and its funding, and a volatile currency, will weigh on the mind of the RBI, which will announce its second bi-monthly monetary policy statement Wednesday. But experts say increasing interest rates is not the solution.
“Debt FPIs do not like volatility in currency and rise in current account deficit, and that has dented their confidence in India, leading to a sharp outflow of funds from domestic debt. Raising interest rates to attract them is not the solution. India should continue on the reform path and look to check its external account,” said the chief investment officer-debt of a large mutual fund.
Kotak Mahindra’s Shah pointed that FPIs have been selling from Indian debt as the interest rates have gone up and the rupee has depreciated — in such a situation, absolute returns are not possible. “On the debt front, India is not part of any benchmark index and so FPIs come for absolute return which is not possible with rising interest rates and currency depreciation,” he said.
“High crude oil prices is one reason for concerns over fiscal deficit, CAD and rupee depreciation. If we can manage fiscal deficit through better tax compliance, CAD through higher exports and inflation through tight monetary policy, higher oil prices will have limited impact on Indian economy, and it will also restore FPI confidence,” said Shah.
Some experts feel the outflow from the debt market may continue if crude prices remain at elevated levels and electronics imports grow at the current pace as there are growing concerns over funding of the current account deficit.
“Over the last three years, crude prices remained low and the FPI inflow was strong, so current account deficit was not a big concern. However, with the growing need of dollar funding amidst rising crude prices in an environment where there is a reduction in global liquidity, investors are growing cautious,” said the CIO.