After FII, will retail investor flows into equity market also shrink?

At a time when the foreign investors have been on a selling spree across most emerging markets, including India, flows from mutual funds via the systematic investment plan (SIP) route and directly into equities by retail investors have supported the markets. However, the headwinds – inflation, rising interest rates and an upturn in the real estate cycle, according to analysts, may dent flows into equities as an asset class going ahead, they believe.

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“A record over $60 billion retail inflow (through mutual funds & direct) into domestic equity over the last 12 months has helped absorb heavy foreign selling. But retail inflows cannot be taken for granted, although the structural retail shift towards equities should help in the long-term. As the trailing 12-month returns drop towards zero in another three-four weeks, pace of inflows can reduce. History shows that a sustained property market boom and higher market volatility also impact flows,” wrote Mahesh Nandurkar, managing director at Jefferies in a report co-authored with Abhinav Sinha.

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The large FPI selling ($22 billion YTD) has been met by a similar $23 billion of buying by DIIs. The domestic buying is, in-turn, supported by resilient inflows into the domestic MFs, which have averaged $3.9 billion per over January – April 2022 and totaled $38 billion since March 2021. 

“The domestic participation has broadened over the last 12-months with the MF retail-equity folio count and SIP accounts up by 29 per cent and 42 per cent, respectively. Retailers have also participated directly via stock purchases. The number of demat accounts is up 63 per cent year-on-year (YoY) and we estimate that over the last two-years, an inflow of $36 billion has been seen directly into stocks from retail investors,” the Jefferies note said.

Thus far in calendar year 2022 (CY22), the S&P BSE Sensex and the Nifty50 have slipped around 7 per cent each. The fall has been less as compared to their global peers such as DJIA, NASDAQ, S&P 500, KOSPI, Hang Seng, Shanghai Composite, CAC 40 and DAX that have lost 12 per cent – 28 per cent during this period. This outperformance of the Indian markets even in the correction phase was possible due to a strong participation in equities by the retail and MFs, analysts said.

“Flows (MF & retail) to the equity markets have been strong. That said, it will be interesting to see the May and June data. Markets are likely to crack again around the time the Reserve Bank of India (RBI) hikes rates in the next policy review in June. A hike (in rates) will give investors an alternate investment avenue, which was not available earlier. Hence, there could be a swing into the debt mutual fund segment, fixed deposits and bonds. That itself would lead to outflow from equities,” said Jigar Shah, chief executive officer, MIB Securities India.

Over past decade, strong retail flows have coincided with declining / low deposit rates, said analysts at Jefferies, who expect the deposit rates to go above the 7 per cent level with a lag even if the RBI were to hike rates. This, they believe, should not be an immediate concern for the markets and may not meaningfully impact flows into the equity segment.

“Just like deposit rates, low property price inflation over the last decade have supported strong equity inflows. Property prices have started rising now and we believe that there is more room for property market upturn. Our channel checks suggest that current surge in housing demand is end-user driven but a sustained upturn will likely pull in property 'investors' as well. This could negatively impact equity flows,” Nandurkar and Sinha wrote.