FII sell-off and market correction: Temporary dip or new trend?

Synopsis

Nifty index fell by over 2,000 points from its peak within a month, impacted mainly by foreign portfolio investors' net outflows. Meanwhile, domestic investors kept investing in the market. Historically, markets often regain a significant portion of these outflows quickly, suggesting potential recovery ahead.

Jimeet Modi

CEO, Samco Ventures

Modi believes that price is the most important factor in investing. He is credited with developing t...Show more »

After crossing the 26,000 milestone, the Nifty index experienced a downturn, falling by over 2,000 points from its peak within just one month, and is now trading below the 100-day simple moving average. In analyzing whether this decline signals the onset of a market downtrend and a shift to bearish sentiment among investors, we examined the market forces driving this selling pressure. As expected, Foreign Portfolio Investors (FPIs) are at the forefront.

As of October 29th, FPIs had net outflows on 19 out of the 20 trading days this month, totalling over Rs. 85,000 crores, with an average daily outflow exceeding Rs. 4,200 crores. Several key factors contribute to this consistent withdrawal, including uncertain macroeconomic conditions, the escalation of geopolitical conflicts, the outcome of the U.S. presidential election and the impact of new government policies on businesses, interest rate cuts, increasing demand for safe-haven assets, and the premium valuations of Indian equities versus deep value in Chinese equities.

However, unlike previous instances, the market is no longer heavily dependent on FPI flows, thanks to the rise of domestic institutional investors and the sustained inflow of domestic savings into the equity market through systematic investment plans (SIPs), alongside increased individual participation in the stock market. Throughout this recent FPI sell-off, domestic institutional investors and individual investors have largely been the counter-parties to these trades, leveraging the high liquidity available. This liquidity trend is expected to continue due to the surge in new investment accounts and demat accounts, coupled with declining bank deposit growth.

Selling pressure becomes a severe risk when all market participants rush to liquidate their holdings, but the current situation is far from such a scenario. Also, we need to note that markets do not move in one direction indefinitely; after a record rally, some correction and consolidation are healthy for resilience and can help pave the way for new targets.

The table below shows the data of continuous FPI net outflows from the Indian equity market. This time, FPIs have been making net outflows for four consecutive weeks, and with the end of this week, it is likely to extend to five weeks.

Since the year 2000, there have been 34 instances where FPIs made net outflows for four or more consecutive weeks. On average, the Nifty has delivered positive returns of over 3.73% in a month following the end of the last week of outflows, with the market regaining over 30% of the investments withdrawn by FPIs in just a month.

(Note - Considered SEBI’s Final FPI Data)

Case 1: With Global Financial Crisis and Covid Period

Case 2: Without Global Financial Crisis and Covid Period

So it might look gloomy that the FPI’s have sold more than Rs 1 lakh crore worth of stock. However, history shows that their entries are also swift and they plough back more than one third of the amount withdrawn in the first month of their re-entry.

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