Key Factors Driving Recent Sell-Offs in India’s Financial Markets
FIIs has been one of the key sellers in India’s financial markets. Their sell-off impacts market trends and investor sentiment considerably. According to data compiled by NSE, FIIs had been net sellers for four of the last five fiscal years till August 2024. In FY21, FIIs bought shares worth ₹1.29 trillion. However, they sold equities worth ₹2.83 trillion, ₹2.28 trillion, ₹15,468 crore, and ₹98,127 crore in FY22, FY23, FY24, and FY25, respectively, till August.
This selling trend shows that the market is unstable. FIIs play a key role in capital inflows to emerging economies. Therefore, it is important to understand the causes of this trend. Doing so can help predict future market movements and investor behavior.
1. Global Economic Uncertainty
The current reason for this recent sell-off by FIIs is uncertainty in global economies. The risk aversion created due to the global politico-economic tensions, which include the recently threatened war between Israel and Hamas, is forcing all investors to pull out from emerging markets and take refuge in the so-called safety houses. The fear of a bigger conflict with neighboring countries made the FIIs a little cautious, thus selling Indian equities.
2. Rising Interest Rate
The Federal Reserve and the Bank of Japan, among the world’s central banks, are raising interest rates in a bid to tackle inflation. The BOJ in October 2024 maintained its monetary policy rate at 0.25% after two rate hikes earlier in the year.
Higher interest rates in the developed markets attract more investors who prefer to have a larger proportion of their portfolios in developed market assets, thus causing capital outflows from emerging economies such as India. Increasing returns on safer assets in developed countries reduce the relative attractiveness of relatively riskier investment opportunities in emerging markets and results in shifting FII portfolios in favor of developed market economies.
3. Appreciation of US Dollar
The sell-offs by FII are highly affected by the appreciating US dollar. The US has almost one-quarter share of the world’s GDP, and nearly half of all cross-border bank lending and international debt securities in USD have been issued, as reported by the World Economic Forum as of July 2024.
A stronger dollar makes emerging market investments less attractive because of the threat of currency devaluation. When a dollar is appreciated, returns in local currencies erode in terms of their value translated back into USD. This currency risk is one factor that makes FIIs inherently wary of bringing down their exposure to markets such as India.
4. Devaluation of Rupee
The selling pressure that intensified due to the devaluation of the Indian rupee has heavily plagued the sale of FII stocks. This also reduces returns when converted to US dollars, thereby reducing the attractiveness of investments in India. Such a depreciation can create and exacerbate FII outflows because the very process of such repatriation adds additional pressure on the rupee, thus forming a vicious cycle of currency weakening and capital flight.
Business Standard said on September 2024 that the rupee had slipped 1.5% from last year, after suffering a sharper decline of 7.8% in the last financial year (2022-23). This increases pressure on foreign investors.
5. Geopolitical Tensions
Among other geopolitical tensions, the ongoing Russia-Ukraine war has further contributed to the volatility. Unstable geopolitical conditions create uncertainty and risk, prompting investors to gravitate towards safety havens. Global markets interact with each other, creating a situation wherein geopolitical problems in one region can affect investor sentiment globally.
6. Weak Corporate Earnings
Weak corporate earnings have also fueled the FII selling spree in Indian markets. Almost all stocks witnessed weak results in Q2’2024, with most missing estimates. This indicates somewhat weak macro conditions that are not supporting business growth, thus making investors skeptical of prospects. Therefore, the FIIs sold more to cut back on exposure to the negative sentiment. August 2024; Fortune India, BSE 500 companies reporting negative earnings too rose to 46% in March 2024 and more sharply shot up to 62% in June 2024. This too raises the foreign investors’ apprehensions.
7. Regulatory and Policy Concerns
In addition, the regulatory and policy changes in India can affect FII behavior. Changes in tax policies, foreign investment regulations, or other economic policies that are not favorable or unsettled will have a chilling effect on foreign investors. FIIs prefer stable and predictable environments; perceived instability can cause them to reassess their investment strategies.
Impacts of FII Sell-Off
The sell-off by FIIs has several consequences for the Indian markets and economy:
- Market volatility: This is due to increased market volatility in the event of FII withdrawal. Large selling can force sharp declines in stock prices and influence general market sentiment.
- Currency pressure: Continued FII outflows cause continuous erosion of the Indian rupee. This will have further macroeconomic implications, ranging from increased import costs and inflationary pressures.
- Impact on Domestic Investors: The presence of FIIs may influence the behavior of domestic investors. A series of selling by FIIs may induce panic selling by the small retail investor, and hasten the fall in the market.
- Policy Response: The government and regulatory authorities in India must respond with stabilizing measures, incentives for foreign investments, and perhaps currency support interventions.
- Long-term Growth Prospects: The volatility is more of a worry for the short term, but the long-term growth prospects of the Indian economy are intact. Structural reforms, a young demography, and an emerging middle class continue to make India an attractive destination for investment.
Conclusion
Foreign Institutional Investors (FIIs) are selling in the Indian market again due to global economic uncertainty, rising interest rates, a strong US dollar, and weak corporate earnings. This trend poses challenges for the Indian markets.
However, it also highlights the value of India’s stable and attractive investment environment. Policymakers must address these challenges to ensure sustained economic growth and maintain investor confidence.
