Invest more as SIP closure ratio rises

Long-term investors may use this number as a contrarian signal

In the last two fiscals, mutual funds have made a huge contribution to equity markets. The lion’s share of fund inflows has come from retail investors. As a result, lukewarm and negative foreign institutional investor (FII) contributions have been more than counter-balanced.

In 2017-18, foreign portfolio investors (FPIs) put Rs 256.35 billion (bn) into equities. An impressive sum in itself. But it was less than half of the Rs 557.03 bn FPIs invested in 2016-17. In 2018-19 (April 2018-Feb 21, 2019), FPIs have pulled out Rs 489.11 bn.

The total fund contribution to equities was Rs 638.9 bn in 2015-16. In 2016-17, mutual funds put Rs 547.35 bn into equities. In 2017-18, the funds pumped in an incredible Rs 1.41 trillion. In the current fiscal, 2018-19, (until February 21) the funds have pumped in Rs 921.54 bn.  

Clearly the last two years have been extraordinary and represent a paradigm shift in fund inflows. Since equity flows mostly come from retail, they are a useful indicator of retail sentiment. There are many possible explanations for rising retail interest.

The spurt in 2017-18 may have been a hangover from demonetisation - individuals forced to put their money into digital assets, punting on rising markets.  Another explanation: clever advertising (The Mutual Fund Sahi Hai campaign) coincided with a bullish period. Retail attention was focussed on equities at a time when alternate avenues were not attractive. Real estate was in the doldrums, debt wasn’t offering great returns, business was down as a result of demonetisation and GST, and gold was just chugging along.

The fund inflows had a boot-strapping effect and inevitably pushed up equity prices. That led to a virtuous feedback loop where rising share prices attracted more investments. Of course, retail investors also played the market directly.

Fund investors have a stickier attitude than direct retail investors. Direct investors often sell off if there’s a couple of months of negative returns. Many fund investors enter via systematic investment plans (SIPs), which have minimum tenures of six months. Hence, the investor is committed for that minimum period. A large number of SIPs tend to be taken in April in the new fiscal year. A SIP taken in April must continue till September and closure numbers will only reflect in October.

The last year has been bad for all equity investors. Smallcaps and Midcaps have given substantially negative returns while the Nifty Largecaps are marginally positive. Very few equity funds have made decent returns. We’ve seen the impact on retail sentiment, with direct retail investors exiting in the last six months.

But fund flows seem to have held up although there’s been a deceleration of inflows compared to 2017-18. Between April-Sep 2017, fund investments into equities hit Rs 770 bn. In the corresponding period, April-Sep 2018, fund flows hit Rs 474 bn. In the period, Oct 2017-Feb 2018, fund investments were Rs 552 bn, while Oct 2018-Feb 2019 has seen investments of Rs 448 bn. There is a slowdown, both year-on-year as well as sequentially.

In December 2018, the SIP closure ratio hit 52 per cent of all fresh SIP applications. This indicates that one SIP was being closed for every new SIP opened (or extended). It was an 18-month high for the closure ratio. Through 2017-18, and between April 2018-Nov 2018, SIP closures ran at between 25-35 per cent of new SIPs.

This high closure ratio may be an aberration. It could also indicate that retail sentiment has turned down. A couple of other data points are worth noting. The quantum of SIPs has been higher in absolute terms in 2018-19 than in 2017-18 and it formed a far higher percentage of 2018-19 inflows. In 2017-18, out of total equity inflows of Rs 1.57 trillion, SIPs amounted to Rs 671 bn. In 2018-19 (until Jan 2019) out of total inflows of Rs 861 bn, SIPs contributed a high Rs 765 bn. The dependency on SIPS has increased.

It’s also worth noting that a massive Rs 505 bn flowed into equity schemes in February and March 2018. We can’t rule out a similar surge this year. If there is no end-year surge, and SIPs do taper off, or there is a rise in closures, there could be loss of investment momentum, or even redemption pressures. That may be the last straw for a fragile market.  A high closure ratio could be a useful contrarian signal for long-term investors.