After an unpleasant October, will FIIs change minds in November? 5 factors that could lead to foreign inflows

Indian stock markets witnessed one of the worst monthly performances in October after the COVID-19-induced sell-off in 2020, as the benchmark indices, NIFTY50 and SENSEX, shed nearly 6% each.

The decline came after a stellar show in September when the markets hit a new all-time high. October started with cautiousness around earnings and certain worries about the economy as key, high-frequency indicators suggested a slowdown in major sectors of the economy.

As the earnings season progressed, it became clear that the pain in the economy was real, which started reflecting in the stock market.

Besides, the strong economic performance of other rival emerging markets in Asia and China made India less attractive, causing the flight of investors' money.

The Chinese stock markets shot up from their 52-week low to 52-week high a month after the government announced all-around support to the economy with massive stimulus package measures. In addition, the Chinese central bank cut interest rates there, making it the most attractive destination for investors.

This led to foreign investors flocking to Chinese markets, which resulted in a historic selloff of Indian equities by foreign institutional investors (FIIs).

The FIIs holding in Indian equities went to decadal lows after they sold over ₹1 lakh crore worth of stocks in October.

This included a sell-off of many large and midcap stocks that caused these stocks to plummet up to 40% from their record highs.

Poor earnings growth, high cost of capital, lofty valuations, and rising geopolitical uncertainty prompted FIIs to reduce the exposure of Indian stocks from their portfolio.

That said, the month is over, and with a series of events lined up, will there be a change in this trend? We have collated a list of factors that can attract FIIs once again to Indian shores.

Persistent rate cuts in the US

The COVID-19 pandemic prompted all the central banks across the globe to adopt a cheap money policy, which flooded many emerging markets, including India, with loads of FII money, leading to a relentless rally in Indian markets even during tough economic times.

When central banks started raising rates again, money chased safe havens and debt securities back to the home country. After a steady pause in rate hikes, the US and other central banks have started cutting rates as economic growth has become a central issue for the government and monetary policy.

The US central bank cut interest rates in a previous policy meeting and is expected to cut again in upcoming policy meetings, which could lead to more capital inflow into Indian markets.

The Reserve Bank of India, too, changed its stance from accommodative to neutral, paving the way for rate cuts in the Indian economy in coming quarters. Historically, a lower interest rates globally have aided for strong FII inflows in Indian stock markets

Donald Trump’s victory

The key overhang in the global markets was the US presidential election results, which are now done and dusted with Donald Trump set to become the 47th US president.

His re-election as president was cheered by markets across the board as he plans to reform tax laws, cut corporate taxes in the US, and end the ongoing wars, which could lead to prosperity in the US and propel economic growth in the world’s largest economy.

This would also be helpful for India, as sound economic growth means strong capital appreciation and a rising risk appetite for global investors who can re-think increasing exposure to India again.

Sizeable correction in Indian markets

Indian markets have witnessed a sizeable correction in October from the record-high numbers achieved in September.FII’s reduced the exposure largely because of high valuations and recession fears hovering around the global economy.

After a nearly 10% correction in the Indian stock markets on the key benchmark indices, it makes it less prone to any sharp correction. This fall might be seen as a buying opportunity by the FIIs for quality stocks.

India’s share in the global m-cap stands reduced

India’s total market capitalisation hit $5.5 trillion earlier this year, making it the fourth largest market globally. The other three economies were the US, China, and Japan.

After the steep correction in October, India’s market capitalisation fell to $4.9 trillion, and the share from global market capitalisation also fell below 4% from 4.4% earlier.

At the same time, other emerging markets like China and Hong Kong saw more than 20% gains in a single month on stimulus developments.

Given this, India’s consistent outperformance in economic growth among other emerging markets makes it an attractive destination for investment after this steep correction.

Valuations in affordable range

After the recent decline, the valuations of the benchmark NIFTY50 index have come to an affordable range. Earlier, the NIFTY50 traded at a price to earnings (PE) of 24.3x, higher than the overall median range of valuations. After the correction of nearly 10% from the record high levels, the NIFTY50 trades at a 22.3x PE multiple.

The broader markets also corrected significantly as the NIFTY500 PE multiple fell from over 28x PE to 26X. This fall in valuation and the potential long-term earnings outlook could make a bull case scenario for global investors, prompting FIIs to divert the flow to India.

Despite the above factors, weak earnings may lead FIIs to adopt a wait-and-watch approach. Despite the steady outflow of money by FIIs, Indian markets have shown resilience and have given over 23% returns in the past 12 months.