Decoding equity flows: Retail investors offset FPI selling in April, May

Strong and sustained retail interest can counter-balance FPI selling; small and midcap may outperform

There’s been a shift in retail attitude in Q1FY22 if we look at mutual fund data. The stock market rose in April and May despite FPI selling. This was due to retail buying both directly, and via mutual funds. In June, too, the market has risen and made new highs because there’s been FPI buying as well as retail investments.

Through FY21, open-ended equity mutual funds saw net outflows of Rs 25,966 crore. Despite that, the market rose because FPIs (and other domestic institutions) were heavy net buyers in the fiscal.

Mutual funds (MFs) saw huge net inflows of Rs 2.3 trillion into debt schemes in FY21, although there was an outflow of Rs 84,000 crore from the debt segment in Q4. The debt fund investments were largely corporate and based on RBI easing liquidity and keeping interest rates low.

In April and May 2021, equity MFs have inflows of Rs 13,520 crore, mostly from retail. Debt has seen an outflow of Rs 44,512 crore in May after Rs 1,00,900 crore inflows in April. In April and May combined, FPIs had net equity sales of Rs 12,613 crore. But FPIs have bought Rs 15,520 crore in June (until June 10). The Nifty rose 4.8 per cent from April 1 to May 31, on the back of direct retail and fund buying.

If the trend of strong retail interest is sustained, it would counter-balance further FPI selling. One concern for global investors is sharply rising inflation in the US economy and also in global commodity markets. As of now, Indian inflation and US inflation have been close. This could lead to FPIs switching away from rupee assets to safer hard-currency assets. However, strong equity MF inflows would counterbalance such selling, if it occurs.

A bull run driven by retail investments has some characteristics. Direct investments by small investors tend to be in smaller stocks. So, smallcap and midcaps may outperform largecaps. These stocks don’t have high FPI presence. FPI selling will not affect them much, but positive retail buying could drive them up. However, retail selling can also lead to crashes in smallcaps.

It may be useful to look at some larger fund holdings since much of the inflows will go into bigger stocks. The top 100 fund holdings as of March 31 are mostly large caps with significant FPI presence. This is where an expansion of fund holdings could balance possible FPI selling.

Investors may want to look at stocks where funds expanded holdings in Q4FY21. One filter is strong consensus buying in Q4FY21 (Jan-March 2021). Stocks like Hindalco, Cholamandalam Investments, Shree Cement, Motherson Sumi, Max Financials, Crompton Greaves Consumer, Power Grid, ICICI Lombard, Info Edge, Emami, Gland Pharma and Sheela Foam all saw a situation where the number of schemes buying into the respective stocks far outnumbered the number of schemes that sold, by at least 65 schemes per stock.

One word of caution. Retail driven rallies are very sentiment-sensitive. So market volatility is higher. If the trend of retail inflows breaks down, and there is FPI selling too, there could be a steep correction.