The liquidity conundrum

TORCHLIGHT

Several domestic and international investors are waiting in the wings to make purchases at every fall.

Notwithstanding the seemingly stretched valuations, the stock market is rolling on like a juggernaut. With the Sensex close to 11,000, there is no dearth of those whispering how soon will the 14,000 mark be breached, as though the 12,000 and 13,000 levels do not exist.

The occasional hiccups, known as 'corrections' in market parlance, are becoming increasingly short-lived. On a few occasions when a correction set in, a sharp rebound began almost immediately, even before one could say 'Jack Robinson'.

Well, if this phenomenon baffles you, a look at the record mop-up by mutual funds in February can probably provide some clues. It's party time for mutual funds, as investors put in a whopping Rs 1,28,000 million in new fund offerings (NFOs) in February alone.

Following this, NFO figures have shot past five digits in a month for the first time in the history of domestic mutual funds. Add to that Reliance Mutual Fund's record collection in March, and you have yet another spare tyre added on to the unstoppable bandwagon.

Of the Rs 128,000 million raised through 25 NFOs in February, a major part "" worth Rs 85,200 million "" was contributed by just five equity schemes.

The market scenario is that everybody wants to buy stocks at lower levels, but recently, they have not been available at attractive prices. So, it is believed that domestic funds worth over Rs 17,000 crore ($3 billion) and a similar size of international funds are waiting on the sidelines.

Backed by high liquidity, and huge sums of investment in the pipeline, the market is comfortably holding out at higher levels. A couple of weeks ago, the market became suddenly panicky after a hedge fund sell-off had triggered the year's first 200-point plunge.

The fact that it coincided with yet another senseless terrorist attack also added to the overall gloom.

However, just when it seemed as if the hedge fund sell-off was triggering the much-awaited correction, some money on the sidelines was pumped in and, hey presto, the market took yet another astonishing upturn.

Also, a host of global funds, which raised India-specific funds, are waiting to deploy resources at lower levels. Though they expected a correction following the Union Budget presentation, it did not happen.

The finance minister, now a past master at gauging market mood, did little, if at all, to tinker with a booming economy and an an upbeat stock market, with excellent end-results. As the cliche runs 'If it aint' broke, why fix it?'

To sum it up, there is no dearth of funds in India at this moment. Both domestic and international funds are sitting on a huge pile of cash waiting for a market correction so that they can deploy funds at their disposal at lower prices.

Unfortunately for them and fortunately for those already fully invested in the market, today it is the presence of the former on the sidelines is the biggest cushion against the markets going into a free-fall from its current heady levels.

At this point though, spare a thought for the mutual funds that have raised huge sums and are in a proverbial 'Catch-22' situation.

If they take the plunge now, they might not only be taking valuation-related risks but also minimising the liquidity cushion currently available to the Sensex.

On the other hand, if they remain on the sidelines, they will only ensure a one-way ascent for the index and they surely cannot remain in cash indefinitely.

Notwithstanding the relative lack of accountability that most of them enjoy, investors in a market driven by unbridled greed are unlikely to remain passive if they remain in cash as the markets surge.

To extrapolate the situation, the end game at the bourses still seems a fair distance away. The backdrop of a booming economy, with an achievable double-digit GDP growth target, enhances its potency and attractiveness as an investment destination.

This situation is well reflected in the record $647 million foreign direct investment inflows witnessed in January this year (a whopping 326 per cent y-o-y growth).

Hence, the India growth story is gaining further credence among foreign institutional investors, and even as that happens, the money on the sidelines increases.

Simply put, 'liquidity is begetting further liquidity', and for those who had the foresight to enter the Indian markets earlier, life has turned into a one big laugh en route to the bank.

(Ashok Kumar heads Lotus Knowlwealth, a knowledge-driven consulting company in Mumbai, and can be contacted at ceolotus@hotmail.com .)