Role Role of Institutional Investors in Indian Stock

Role of Institutional Investors in Indian Stock Market S S S Kumar* Abstract An important feature of the development of stock market in India in the last 15 years has been the growing participation of Institutional Investors, both foreign institutional investors and the Indian mutual funds combined together, the total assets under their management amounts to almost 18% of the entire market capitalization. This paper examines the role of these investors in Indian stock markets and finds that the market movement can be explained using the direction of the funds flow from these investors.

Key Words : Stock Markets, Clout, Augment, Cumulative, Demat accounts. The Indian stock market has come of age and has substantially aligned itself with the international order. Over the last fifteen years the following developments have made the Indian stock markets almost on par with the global markets: period settlement system give way to rolling settlements on T+2 basis has brought down the settlement risk substantially. • • Dematerialization of securities Demutualization of exchanges Screen based trading systems replaced the Derivatives trading conventional open outcry system of trading and • everyone acclaims the contribution of the screen based trading in developing the culture of equity investing. Infact, today we have one of the most modern securities • The replacement of the fourteen-day account S S S Kumar*, Associate Professor, Indian Institute of Management Kozhikode Role of Institutional Investors in Indian Stock Market 7 Into the country and the year of 1991 marked the announcement of some fiscal disciplinary measures along with reforms on the external sector made, it possible for the foreign capital to reach the shores of the country. As on 31st March 2005 there were 685 (ISMR 2004-05 NSE, Mumbai) registered foreign institutional investors in the Indian stock market. As on that date the net cumulative investments made by Flls are around USD 35. 9 billion representing around 6. 55% of India’s market capitalization. Ever since they were permitted to invest in India the investments made by them showed a gradual increase except in the 1998-99.

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The net inflows averaged around 1. 1 bn per year and large net outflows are rare barring the year of 1998-99 where most South Asian countries were out of favour for a while. Foreign portfolio investment carries a sense of notoriety of its own because at the first sign of trouble this flows in reverse direction. The notoriety emanates from the very nature of FII investment – portfolio managers tend to restructure and rebalance their portfolios dynamically across the countries, their primary concern being their portfolio.

Owing to their magnitude of flows, the direction of FII investment flows tends to make or break the fortunes of a market. FII flows to India are less Table I Market among all the countries in the world. Along with these changes the market has also witnessed a growing trend of ‘institutionalization’ that may be considered as a consequence of globalization. More precisely the growing might of the institutional investors entities whose primary purpose is to invest their own assets or those entrusted to them by others and the most common among them are the mutual funds and portfolio investors.

Today, giant institutions control huge sums of money which they move continuously. In European and Japanese markets, institutions dominate virtually all trading. In the US, retail investors still remain active participants. An important feature of the development of stock market in India in the last 15 years has been the growing participation of Institutional Investors, both foreign institutional investors and the Indian mutual funds (since the pension funds are still restricted to fully participate in the stock market otherwise pension funds are big investors all world over).

With the accelerating trends of reforms Indian stock market will witness more and more of institutionalization and the increasing size of money under the control, this set of investors will play a major role in Indian equity markets. The importance of institutional investors particularly foreign investors is very much evident as one of the routine reasons offered by market Pundits whenever the market rises it is attributed to foreign investors’ money, no wonder we see headlines like “Flls Fuel Rally” etc. , in the business press.

This is not unusual with India alone as most developed economies of today might have seen a similar trend in the past. The increasing role of institutional investors has brought both quantitative and qualitative developments in the stock market viz. , expansion of securities business, increased depth and breadth of the market, and above all their dominant investment philosophy of emphasizing the fundamentals has rendered efficient pricing of the stocks. This paper sets out with the objective of examining whether the institutional investors, with their war chests of money, set the direction to the market.

The next section briefly outlines the growth of institutional investors’ presence in Indian stock market followed by an explanation of the data and methodology employed by the study and finally we present the results and discussions. Year Net Investments by Flls (Rs Cr. ) 4. 27 5444. 60 4776. 60 6720. 90 7386. 20 5908. 45 729. 11 9765. 13 9682. 52 8272. 90 2668. 90 44000. 03 41416. 45 1992-93 1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03 2003-04 2004-05 Growing Clout of Institutional Investors on Indian Markets:

Foreign Institutional Investors (Flls) A Grave Balance of Payments situation forced the policymakers to take a relook at allowing foreign capital Since it is not statutorily binding on Flls to make public, the companies in which they are investing in, there is no publicly available information on this aspect. However, the overall investment that can be made by all Flls in any company’s equity is monitored by Reserve Bank of India, it gives a caution notice, when the overall FII investment level reaches 22 percent in a company.

Subsequently, all purchases have to be done by prior approval of Reserve Bank of India. From such monitoring reports it can be gauged that the Flls are Role of Institutional Investors in Indian Stock Market 79 market or not. Here, one has to note that most stocks that figure in institutional investors’ portfolios are more or less those securities that comprise the nifty or sensex indices hence, co-movements between index and the institutional investments is likely. But, when we use Advances and Declines ratio (ADR hereafter) it captures the direction of entire market in unambiguous terms.

Generally advances to declines ratio indicate the breadth of the market. Hence, we use ADR instead of Nifty or Sensex returns. In reality, it is not possible to isolate the actions of mutual funds and Flls on the stock market, since both the category of investors are acting simultaneously hence, the institutional activity is captured by taking the ratio of combined purchases of mutual funds and Fl Is to combined sales of mutual funds and Flls so if the ratio is ;1 means institutions have pumped in money i. e. , the market witnessed a net inflow of money while a ratio of