Can India’s stock market do well without FIIs?

The participation of foreign institutions in an emerging economy plays a vital role in the development of a nation as they bring in a healthy flow of capital into that country. The Foreign Institutional Investors (FIIs) are typically large firms that invest in assets of other countries. As of March 2023, the FIIs have a share of 20.56 percent of the total capital listed on the National Stock Exchange (NSE).

These investors also bring their knowledge, best practices, and risk management techniques, which can positively influence domestic financial institutions, regulators, and market participants. Thus, the role of FIIs is not just limited to the contribution of capital; they help in bringing various other aspects to the table.

Due to the participation of foreign investors, the efficiency of the market improves, leading to improved price discovery. Historically, the performance of India’s benchmark indices has been closely linked to the activity of the FIIs in the Indian market.

Source: Ace Equity

For the period from FY11 to FY21, the FIIs were net sellers in the Indian equity markets for two years — FY16 and FY20 — when the Nifty also produced negative returns. In FY21, the Covid-19-induced rate cuts by central banks over the world meant that the yields on fixed-income securities dwindled, and hence, emerging markets seemed to offer better value to the FIIs. As a result, there was an unprecedented inflow from the FIIs that helped the Nifty rally by 71 per cent in FY21. However, in the last couple of years, the Domestic Institutional Investors (DIIs) and retail investors have made their presence felt in terms of participation in the total shareholding.

Is the tide turning?

Despite the FIIs being net sellers in FY22 and FY23, the Nifty managed to sustain returns of 18.88 per cent and -0.6 per cent respectively. This is an indication of how much the DIIs and retail investors have absorbed the outflows of the FIIs. As of March, the ownership of domestic investors, retail as well as institutional in the companies listed on the NSE, is above 25 percent for the first time.

The Assets Under Management (AUM) of the Indian mutual fund industry at the end of May stood at Rs 43.20 lakh-crore — which is a five-fold increase from 2013 when it stood at Rs 8.68 lakh crore. The collection of systematic investment plans (SIPs) in the mutual fund industry reached Rs 1.56 lakh crore in 2022-23, which is an increase of 25 per cent from 2021-22.

Source: Association of Mutual Funds in India (AMFI)

This is an encouraging sign for the equity markets in India. The SIPs are becoming more and more popular among Indians because they enable rupee cost averaging and disciplined investing without having to worry about market volatility, or timing the market. The rising prominence of mutual funds among investors can be linked to technological leaps which have enabled paperless onboarding and UPI-based fund transfers, rising financial literacy, and rising disposable income trickling into these investments. As per Ministry of Statistics and Program Implementation, the per capita national disposable income rose by 16.2 percent in FY22 and expected to increase by 14.4 percent as per advanced estimates for FY23.

Will India do well without FIIs?

While the dependency on the FIIs for Indian stock markets to sustain has reduced, any consistent inflow could still bring a sharp rally in the key indices of the Indian markets and vice versa though the decline isn’t expected to be as sharp due to the cushioning effect of domestic participation. The FII inflows in Indian equities in May and June have been much higher than the DIIs at about Rs 27,900 crore and Rs 27,300 crore, respectively. During these two months, the Nifty has rallied by 10.29 per cent. India has witnessed strong FDI inflows in the recent years due to additional sectors being made available for 100 per cent FDI, while the Reserve Bank of India (RBI) has also taken measures to increase FDI inflows through various exemptions and permissions that can help enhance foreign inflows.

It is expected that the government would try to continue to make India an appealing destination for foreign capital through its aggressive initiatives to streamline laws, support infrastructure building, and continue to improve the ease of doing business. The GDP growth projections for FY24 by various bodies peg India’s growth number between 5 to 7 percent which is the highest among the biggest economies in the world. In comparison, recession concerns in the developed economies could result in further inflows from the FIIs.

In conclusion, it can be said that while not having a reliance on the FII investments is a good position to be in, there are numerous advantages that the FII investments offer. To maintain our economic growth trajectory, it is necessary to create a climate that will draw in foreign investment and improve regulations which can further help strengthen our financial markets.

(Parimal Ade (Twitter: @AdeParimal) is Founder, and Gaurav Jain (Twitter: @gaurav28jain) is Co-Founder, Investyadnya.in.)

Disclaimer: The views expressed above are the author's own. They do not necessarily reflect the views of DH.