Indian capital markets seem to be losing their 'safe haven' status among foreign portfolio investors as they appear headed for nearly USD 2-billion pullout of the so-called 'hot money' 2016, making it the worst period in last eight years in terms of foreign investments.
Surprisingly, it is the debt instruments that are taking the biggest hit, after remaining a preferred investment avenue for foreign funds in recent years, even as equities continue to attract net inflows but not enough to compensate the huge outflows from the bond market during the year passing by.
Experts believe that any respite from such a sell-off is likely only in the second half of the new year 2017.
The net outflow by FPIs in the debt market is already more than USD 6.2 billion (nearly Rs 43,000 crore) this year with a few days of trading left, which far exceeds the net inflow of less than Rs 30,000 crore (USD 4.3 billion) into the equity market.
The equity market seems to have kept overseas institutional investors enthralled with its relatively steadier return promise, according to experts.
The overall net outflow has made 2016 the worst year for Indian capital markets in terms of overseas investment since 2008, when FPIs had pulled out a massive Rs 41,215 crore in the wake of the global financial crisis.
The inflationary tendencies on the back of rising bond yields in the developed world bond market coupled with a resilient recovery in crude have led to profit booking.
Dollar strength and expectations of rate hike by the US Federal Reserve, the surprising US presidential outcome and the demonetisation drive, which created domestic cash crunch, sparked intense selling pressure in the capital markets, experts believe.
"Massive pullout of FPI investment, particularly in debt, happened during the last two months, particularly after the (Donald) Trump victory. This FPI pullout is an emerging market phenomenon, not an Indian phenomenon. The selling in debt is due to the market expectation of sustained Federal rate hikes starting December 2016," Geojit BNP Paribas' Chief Investment Strategist V K Vijayakumar said.
Echoing similar views, Dinesh Rohira, CEO at 5nance.Com, said: "Capital outflows started in Indian markets from October over the uncertainty of US election results. This event was soon followed by the demonetisation drive that created a domestic cash crunch and sparked intense selling pressure in the capital markets. This will result in slower production and domestic consumption at least for a quarter."
He added: "The sentiment is weak after manufacturing PMI for November has shown a declining trend. Other domestic factors like impact of GST and global events like Italy's constitutional referendum have played a factor in keeping lower inflows to capital markets."
Going into 2017, Pankaj Pandey, Head of Retail Research at ICICI Direct, believes that FPIs' allocation may remain tepid.
"We do not see a major turnaround for the next two quarters and so, the first half of 2017 will remain subdued in terms of foreign capital flow. The uncertainties are expected to settle down and reforms will start counting in for the economy in the second half of 2017, accelerating the growth momentum," Rohira said.
As the year draws to an end, FPIs have purchased stocks worth about Rs 29,000 crore, but sold bonds to the tune of more than Rs 42,000 crore, resulting in net outflows exceeding Rs 14,000 crore (USD 1.9 billion) for 2016 so far.
Despite outflows this year, FPIs' cumulative net investment in the Indian equity market, since being allowed over two decades ago in November 1992, has now reached over Rs 8.3 lakh crore.
The cumulative figure for debt securities has also grown to Rs 2.72 lakh crore -- taking the total for both debt and equities to Rs 11 lakh crore (USD 223 billion).
The capital poured in by FPIs is often called 'hot money' because of its unpredictability, but these overseas entities have still been among the most important drivers of Indian stock markets.
In 2016, foreign investors made an investment of close to Rs 30,000 crore in equities. This followed a net investment of Rs 17,806 crore in the preceding year.
Previously, FPIs had made a net infusion of over Rs 97,000 crore, Rs 1.13 lakh crore and Rs 1.28 lakh crore in the equity market in 2014, 2013 and 2012, respectively. Prior to that, FPIs had pulled out money from the stock market in 2011.
During the last decade, FPIs earlier made net outflows from equities only in 2011 and 2008. For the debt market, the net outflows were last seen in 2013 at over Rs 50,000 crore.
"The equity market continues to enjoy superior allocation this year on the back of a strong reformist government and expectations that macro fundamentals are likely to improve in an otherwise fragile global economic environment," Pandey said.
In terms of sectors, FPIs remained highly overweight on commodities (metals), oil and gas, automobile and banking, LIC Mutual Fund CIO Saravana Kumar said.
FPIs had started the year on a negative note and pulled out Rs 16,600 crore from equities in the first two months, primarily on account of a continuous fall in crude oil prices and worries over a global slowdown.
Thereafter, overseas investors had infused funds in the following seven months (March-September)on hopes that the Reserve Bank would bring down the monetary policy rate at its first policy meet of 2016-17 and expectations of a good monsoon.
However, they had reversed the outflow trend in October and the withdrawal continued till December on uncertainty over the outcome of the US presidential elections, expectations of a rate hike by the US Federal Reserve and the government's demonetisation drive back home.
With regard to the debt market, FPIs had started the year on a positive note, but for most part of the year, they have pulled out funds. From October onwards, overseas investors have been withdrawing money from the debt market and the trend continued till December.