FII flows hit record in May 2014. Will they sustain?

The road ahead for flows and the markets, analysts say, will depend on how key policy reforms take shape under the new government

Foreign institutional investors (FIIs) pumped in Rs 33,778 crore in the Indian markets (equity + debt) during May 2014, making it the biggest monthly investment in calendar year 2014 (CY14). Backed by flows, the benchmark indices – the S&P BSE Sensex and the CNX Nifty – surged nearly 8% during May 2014.

The 30-share index touched a lifetime high of 25,375.63 on May 16 when the outcome of the general elections gave a clear mandate to Narendra Modi–led Bharatiya Janata Party (BJP) and triggered a change of guard at the Centre.

Earlier in March 2014, FIIs had invested Rs 31,663 crore, which is now their second highest monthly investment in the Indian markets during CY14, Sebi data shows.

So, will this robust flow continue in the months ahead?

Fuelled by the hope rally that started earlier this year, year-to-date, India has been one of the best-performing emerging markets (EM). Most analysts have revised their targets for the benchmark indices pos the election outcome on May 16.

Analysts are of the view that the road ahead for the markets and foreign flows will mostly depend on how the new government tackles policy related issues. Though the road to recovery is long, implementation of key reforms holds key.

Gautam Chhaochharia, head of India research, UBS Securities suggests investors will be willing to give a premium for growth hope and also look beyond FY15 earnings estimates. And by end of 2014, investors would start looking at FY16 estimates.

“Based on our top-down expectation of 15% earnings growth in FY16, and 15x PE, we set our Nifty target for end-2014 at 8,000. There could be upside to this target based on how policymaking evolves over next few months, which could flow through to earnings estimates and multiples higher than average,” he says.

“Our Asian Equity Strategists have maintained their overweight stance on India within the Asia-Pacific (ex Japan) region and have raised their 12-month Nifty target to 8,300 levels,” points Tushar Poddar, chief India economist at Goldman Sachs.

However, Richard Gibbs, global head of economics, Macquarie Research sounds out a word of caution. He says that the FIIs continue to view EMs with a degree of caution, which is a function of two underlying concerns.

First, the ongoing risk of increased volatility in global capital flows due to potential shifts in the stance of US monetary policy – so it is the lingering risk of policy spill-over effects. Second, structural reform pressures in many of the key emerging economies have cast doubt on the capacity of the region to sustain previously high rates of GDP growth.

“Post the election, India is being viewed as a potential opportunity by investors, with the economy having the capacity, due to the decisive election outcome, to gain a ‘first-mover’ advantage in terms of structural reforms. This is important as if the new government can deliver on its election manifesto, global investors will likely form the view that India can achieve higher sustainable rates of GDP growth over the next decade,” he adds.