ETF’s the emerging star

Marketmen see exchange traded funds (ETFs) being favoured by foreign institutional investors (FIIs) as risk aversion rises.

Nilesh Jasani, managing director, equity research, Credit Suisse Securities, expects as much as $5-10 billion to come into India through this route over the next 12 months. “Eventually, it could account for up to 40% of total inflows to the country’s equity markets,” he says.

Naresh Kothari, head, institutional investors, Edelweiss Securities, agrees. “ETFs will play a slightly more important role in the days ahead. For the investor, it presents a more convenient, albeit more passive means of putting his money to work,” he says.
An ETF tracks an index or set of stocks or bonds. It reflects the value of the underlying securities at all times and in the case of equity, is seen as a passive means of increasing exposure to a country’s stocks.

As of June end, 272 such funds had exposure to emerging market benchmarks, according to a report by Barclays Global Investors. Their assets totalled a whopping $116 billion or Rs.5.5 lakh crore.

The current contribution of ETFs to Indian markets is estimated to be a quarter of the total inflows over the last three months, says Jasani. FII inflows have been Rs 35,453.60 crore during this time.

And what explains the sudden rise in investor interest in ETFs? The financial crises and issues of counter-party risk, liquidity, costs and the utility of derivative products, among others, say experts.

The proportion of ETF flows to the overall flows may not immediately rise on account of the interest displayed by more active players, says Kothari. “Long-only funds have increased their allocation to India, so the significance of the role that ETFs would play, at least in percentage terms, may be limited,” Kothari added.

Experts say the flow of FII money is currently focused on certain companies. ETF as an instrument is broader in its allocations. This might have more of an impact on the overall market compared with funds that have shown a tendency to make more niche investments.

Ajay Parmar, head - institutional research at Emkay Global Financial Services, points out that a large part of FII flows has been through qualified institutional placements, through which investors buy into the stock of a single company through a special offering for raising funds. “Thus, they have more effect on specific stocks than the market at large,” he says.

Jasani feels Indian markets would continue to be driven by capital flows. “Investors are not putting their money into India on the basis of a valuation argument since India is clearly not a cheap market. Positive sentiment is based on the availability of liquidity and the tremendous support that it offers to Indian equities,” he says.