InvestorQ : Is it true that global FIIs exert more influence on the Nifty and the Sensex than the local mutual funds? What is the reason for the same?
rhea Babu made post

Is it true that global FIIs exert more influence on the Nifty and the Sensex than the local mutual funds? What is the reason for the same?

2 years ago

Surely, you would have noticed that markets really shoot up when the FIIs are buying heavily and they are falling vertically when the FIIs are selling. Somehow, the mutual funds do not exert the same degree of influence. There are 5 key reasons for this phenomenon, which explains why the FIIs exert a greater influence on the Indian market movement…

· As a share of ownership, FIIs own nearly 25% of the overall equity of India’s top-100 stocks. This is only lower than promoters who hold an average of 49% in Indian companies. Mutual funds, on the other hand, hold less than 10% in the equity of Indian companies. This obviously makes them a less influential player when it comes to impacting the Nifty levels.

· FII investments are restricted to the index stocks and the leading stocks that are present in the MSCI Emerging Markets Index. This is contrary to the domestic mutual funds which focus more on mid-cap and small cap funds in search of alpha. The need for alpha is much less in case of FIIs and large cap stocks are good enough to provide that.

· FIIs tend to behave in droves more often than the mutual funds do. Most FIIs are actually executing orders on behalf of large macro players like hedge funds, index funds, ETFs and sovereign funds. They typically take macro calls on the markets and that leads to bunching of selling or buying from FIIs. Hence their influence on the Nifty tends to get magnified.

· FIIs have end-investors who are essentially institutions and hence they happen to be stickier. On the other hand, the clientele for equity mutual funds are predominantly retail investors. They have a limit to the MTM losses that they can afford to take. The situation of retail flows into equity MFs has been consistently positive over the last 3 years. However, that may be deceptive. Prior to that, equity mutual funds had seen consistent retail outflows for 61 months in succession. The source of influence of the mutual funds can shift quite fast.

· Lastly, there is a very important currency angle to the whole story. For example, when Mutual Funds infuse money in the market, it is purely an impact on equities. On the other hand when FIIs bring in money, the impact is felt on the equity markets as well as the INR due to dollar inflows. This dual impact makes the FII flows more influential compared to domestic mutual fund flows.

The crux of the story is that, as of now, FIIs continue to exert more influence on the Indian equity markets. But the experience of the second half of 2018 indicates that sharp inflows from mutual funds have been instrumental in providing a support to markets. That by itself may be a good starting point for mutual funds to exert greater influence on Indian equity markets. But as long as the FIIs influence the equity values and the currency, their impact will be a little outsized.