Why are FIIs or Foreign Institutional Investors Exiting India?

Foreign Institutional Investors (FIIs) have been a significant driver of India's stock market for many years. However, in recent weeks, there has been a notable trend of FII outflows from the Indian market. This has raised concerns about the impact on Indian equities. What are the reasons behind this outflow, and how it will impact Indian markets? We try to answer these questions in this article.

FIIs pulling out of India

October 2024 was a record month for the Indian market but in a negative way. FIIs sold a net of Rs 114,445.89 crore in October 2024. It is the highest selling number by FIIs in a month. In 2024, the highest net sales by FIIs was in May 2024 (before Oct), when they sold Rs 42,214 crore of Indian equity.

Before October, the highest selling by FIIs was seen in March 2020 (Covid Crash). They sold Rs 65,816.70 crore worth of equity. Back then, Nifty fell more than 20%. However, this time around, the fall has been small, thanks to buying by DIIs. The net buying by DIIs in October was Rs 107,254.68 crore.

The trend continues in November as well. In the three trading days (up to 5 November), FIIs have sold equity worth Rs 7,111.13 crore, and DIIs have bought equity worth Rs 5,589.71 crore.

Reasons behind the exit of FIIs

There are multiple reasons behind the exit of FIIs from the Indian market. Let us look at some of them:

China Stimulus: One of the main reasons for the exit is the potential for higher returns from the Chinese market. China has recently introduced a series of stimulus measures, including easing monetary policies and boosting government spending, aimed at revitalizing its slowing economy and attracting global investment back into its markets. It is not the only reason, so let us look at other reasons as well.

Premium Valuation: The Indian market median PE (starting in 2007) is 21.9. Before the recent fall, the Nifty50 PE was over 24, which makes the Indian market slightly over-valued compared to other emerging economies. As global markets offer more attractive valuations, FIIs are shifting their focus to other markets.

High Inflation: September saw inflation hit 5.49%, the highest this year, which cast a shadow over market sentiment. Why high inflation is bad for the market? High inflation erodes purchasing power, making goods and services more expensive. This can lead to reduced consumer spending, impacting corporate profits. As a result, companies may struggle to maintain profit margins, leading to lower earnings growth. This, in turn, can negatively impact stock prices, as investors may become less optimistic about the future prospects of these companies.

Disappointing Q2FY25 Earnings: A weaker-than-expected Q2 FY25 earnings season has raised concerns about the growth prospects of Indian companies. India companies saw net profit growth of 3.6% during the September quarter, which was the slowest growth in 17 quarters, driven by sluggish revenue growth and rising interest and depreciation costs. Total expenses and other income also edged up only slightly.

US elections: The US presidential elections have created uncertainty in global markets, as investors await the outcome and its potential impact on global economic policies.

Impact on the Indian stock market

Foreign Institutional Investors pulling out money from the Indian stock markets has significant short-term and potentially long-term impacts. Here are some potential impacts:

Increased Volatility: FIIs account for a substantial portion of trading volume in Indian markets, so their exit has led to sharp declines in stock prices. We have seen increased volatility as domestic investors react to the sell-offs. A strong FII outflow has also resulted in the market swinging unpredictably, which has created concerns among retail investors. The support by DIIs this around has been a big relief for the Indian investors.

Downward Pressure on Stock Prices: Large FII outflows caused a broader sell-off in stocks, particularly in blue-chip and large-cap companies where FIIs have significant stakes. It led to a fall in market indices like the NIFTY and the Sensex, impacting overall investor sentiment and wealth.

Currency Depreciation: FII outflows translated to higher demand for foreign currency as investors convert their rupee holdings to dollars before repatriating. This increased demand has led to the depreciation of the Indian rupee. A weaker rupee makes imports more expensive and can add to inflationary pressures in the economy.

Impact on Liquidity and Domestic Sentiment: A large FII sell-off led to reduced liquidity in the stock market, making it harder for investors to buy or sell large quantities of shares without affecting the price. This reduction in liquidity can further have a cooling effect on market sentiment, especially if domestic investors fear continued outflows.

The Positive Side

On the positive side, FII selling has led to lower stock prices, which has created attractive buying opportunities for long-term domestic investors. High-quality stocks are trading at discounted prices, allowing patient investors to acquire shares at valuations that could lead to higher returns in the future. This is especially beneficial for retail investors who have a long investment horizon and are not swayed by short-term volatility.

What Should Investors Do?

• Stay Calm: Market corrections due to FII outflows are often temporary. Long-term investors should avoid panic selling.
• Invest Systematically: SIPs can help investors benefit from rupee-cost averaging during volatile periods.
• Focus on Fundamentals: Look for fundamentally strong companies with good growth potential. Corrections often provide opportunities to buy quality stocks at discounted prices.

Is it a long-term concern?

While the recent FII outflows have caused some market volatility, experts believe this is more of a tactical shift than a strategic exodus. Despite facing headwinds such as rising inflation and global economic uncertainty, India's long-term growth story remains compelling.

A key factor contributing to this optimism is India's increasing weight in global indices. As China faces structural challenges and potential geopolitical risks, India has emerged as a more attractive investment destination. This shift in global investor sentiment is evident in the increasing allocation of funds to Indian equities.

However, the short-term outlook remains uncertain, influenced by factors like the US election outcome, geopolitical tensions, and global central bank policies. While some sectors may face near-term pressure, India's strong fundamentals and robust domestic demand continue to support its long-term growth trajectory.

Before you go

Investors should monitor the ongoing selling by FIIs. For now, DIIs have been able to support the sharp fall, thanks to the high inflow and cash reserves they held up until recently. However, if FIIs continue to sell and DIIs are unable to buy, we can see an even sharper correction from the current levels. Along with FII selling, other factors that we have discussed will also play a crucial role in deciding the market direction.