MC Explains | Why FIIs are selling Indian shares and what could reverse the trend

FII’s main concern appears to be valuations. While earnings have been strong, share prices have run up way ahead of fundamentals.

Foreign institutional investors (FIIs) have net sold around $2.4 billion worth of Indian equities, so far, this year. This is despite India’s strong macroeconomic fundamentals compared to most countries and healthy corporate earnings.

Through this explainer, let us look at why FIIs are selling Indian stocks and which are the factors that can reverse this trend.

First up, why are FIIs selling shares when India’s macroeconomic and corporate numbers are robust?

The main concern appears to be valuations. While corporate earnings have been strong, in majority of the cases, share prices have run up way ahead of fundamentals.

“Foreign investors seek opportunities where they can find growth, reasonable valuations, and liquidity,” says Amit Jeswani, CIO of Stallion Asset. “At the moment, they find growth (in the context of valuations) to be mediocre.”

Are there any other factors?

The average 10-year bond yield on US Treasuries is 4.2 percent. According to Jeswani, the correlation between US bond yields and liquidity is significant. If FIIs can get a decent risk-free return, they are bound to shift some of their money out of risky assets like equities.

How has the US Fed rate cut expectation changed FII sentiment?

Narendra Solanki, Head-Fundamental Research, Anand Rathi, says a good part of the FII funds that came in in the latter part of 2023 were driven by hopes of the US Fed cutting interest rates. With inflation in the US staying high, the American central bank has hinted that it is in no hurry to cut rates. That is prompting funds to pull money out of emerging markets such as India.

Why have foreign investors stayed away from the rally in mid and smallcaps?

As mentioned above, valuations are the main worry. Besides, FIIs look for liquid stocks to invest in. Meaning, they invest in stocks where it is possible to buy and sell large quantities without that impacting the stock price.

Which are the sectors that FIIs are most cautious on?

Financial services, construction, and telecom are some of the sectors in which FIIs have been reducing their exposure to. The bearish view on banks is because of their inability to raise low-cost deposits even as credit growth has been fairly strong. If banks don’t get cheap funds, their profit margins will shrink.

What could bring FII money back to India?

The reversal of the FII selling trend in Indian equities may hinge on global economic conditions, clarity on Fed policies, sustained high growth in India, and sector-specific improvements.

Domestic factors, including robust flows and strong earnings, may also play an important role in stabilising and attracting foreign investments.

When will there be more clarity on the US Fed policies?

According to Solanki, a major reversal might occur once the path of Fed policies becomes clear in the next meeting. A more definitive stance on interest rates could positively impact FII sentiment.

Will global conditions support inflows into India?

Given the global nature of financial markets, any positive shifts in global economic conditions, including improved prospects for the Nasdaq and S&P 500, could attract FIIs back to India.

Which industry sectors could bring FIIs back to India?

The continued bullish outlook for sectors like healthcare, IT, consumer services, and automobiles could potentially attract foreign investors seeking strong earnings and diversification.