Indian equity market has done a volte face in 2012 and the Sensex galloped 19 per cent higher in the first two months.

It is no secret that foreign institutional investors (FIIs) that have ploughed in close to $7.5 billion are the main force behind this rally.

But what drove this reversal in FII flows?

Lower pullouts from India Exchange Traded funds (ETFs) listed abroad, and higher allocations to India from emerging market funds as also sovereign wealth funds may have driven the flows, say market watchers.

Exchange Traded funds

Foreign investors were on the back foot throughout 2011 pulling out close to Rs 2,800 crore in that period.

As the accompanying table shows, many of the larger India ETFs also reeled under redemption pressure in that period.

Outflows from these funds halted in January and February 2012, though there were no significant fresh inflows.

Take WisdomTree India Earnings fund, one of the largest India-specific ETFs listed on the NYSE. It recorded an outflow of $235 million in 2011.

The fund received $4.3 million in the first two months of this year.

If India-tracking ETFs saw small inflows, emerging market ETFs probably raised their allocations to India, bringing in new money.

Mr Manishi Raychaudhuri, Head of Research, BNP Paribas Securities India, wrote in a recent report that recent flows probably came from funds correcting their underweight positions. “India received disproportionately high inflows from both Global Emerging Market funds and Asia ex-Japan funds in January 2012 — 20 per cent of all Asia ex Japan inflows and 50 per cent of all GEM inflows — came into India.

“Post the heavy selling in 2011, these funds' exposure to India had decreased significantly.

“As a result, they deployed a disproportionately high amount of their incremental inflows in India.”

Sovereign wealth funds (SWFs) are said to be another class of investors that have turned bullish on Indian equity.

Many SWFs, including Abu Dhabi Investment Authority, Singapore's GIC and Fullerton Fund Management Company and Kuwait Investment Authority, are already investing in Indian stocks through the FII route.

Khazanah Nasional, a Malaysian sovereign wealth fund, is also reported to be eyeing direct investments in the Indian equity market.

Hedge Funds

If ETFs and sovereign funds accounted for some of the FII action, hedge funds may have been watching from the sidelines.

India-specific hedge funds have underperformed Indian benchmarks in the first two months of this year, gaining just 3 and 3.4 per cent in January and February.

It is not likely that they have pumped in a vast amount of funds into the country.

According to hedge fund database provider, Eurekahedge, asset flows into hedge funds in January were $3.7 billion globally.

Less than 5 per cent of this money ($185 million) is likely to have come to India. So, it is obvious that hedge funds were not the primary source of inflows this year.

(This article was published on March 10, 2012)
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