The missing investor

The Sensex may have crossed 7,200 and may be scaling new heights, but the retail investor has resolutely refused to join the party.

Data released by the Association of Mutual Funds in India show that, despite the plethora of new mutual fund schemes launched during June, net flows into equity funds have been negligible.

The numbers bear out anecdotal evidence that the amounts garnered by the new launches are not new money, but a churn from existing funds.

Investors fooled by the incentives being offered by distributors or by the hype about the so-called mutual fund IPO being offered at "par" have been induced to switch from existing funds to the new schemes.

At the same time, there's also scepticism about the market rally among domestic investors. This has led to redemptions, evident from the fact that mutual funds have been net sellers during most of the bull run during the last couple of years.

Nor is it only mutual funds that have failed to attract the retail investor: in 2003-04, Indian households invested a mere 1.4 per cent of their savings in stocks and bonds, including mutual funds and units of the Unit Trust of India.

Those numbers prove that the Indian retail investor is scared of the stock market, and foreign investors, who have no such inhibitions, have steadily increased their stakes in Indian companies.

It's also worth recalling that in 1989-90, before liberalisation, Indian households had invested around 10 per cent of their savings in shares, debentures and units.

Since then, our markets have become vastly more modern. We now have dematerialisation, T+2 settlement, mark-to-market margins, the Clearing Corporation, electronic trading, and a host of new and innovative mutual fund schemes, to name but a few of the extensive improvements in the stock markets, but the retail investor has remained wary.

All that the rally of the last two years seems to have done is allow him to book some profits.

There's little doubt that periodic scams in the market have shaken the faith of the small investor. The UTI meltdown, in particular, dealt a blow to investor confidence from which he has not recovered.

But there are also other issues that have acted as deterrents to market entry. One of them is the relatively high rate of interest that the government still doles out on small savings.

The mutual fund industry has for long pointed to this as the reason for the lack of interest in its products. But the industry too has to bear part of the blame.

It has been content to court short-term institutional funds, and try and augment their funds by gimmicks such as marketing their new launches as IPOs.

They have been all too willing to offer schemes that capture the investment theme that is the flavour of the month, rather than educate the investor about the benefits of systematic and consistent investment in equities.

And they have been reluctant to invest in the infrastructure required for tapping savings in the rural hinterland.

The result of these flawed strategies has been that investors look to mutual funds as short-term investments, and use them to time their entry and exit into the market.

The consequence is an increase in volatility, and complete dependence on foreign inflows. If the Indian stock market is to be deepened and made more stable, the retail investor will have to be persuaded back into the market.