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Rediff.com  » Business » When trading, don't copy big boys' moves

When trading, don't copy big boys' moves

March 29, 2011 11:32 IST

At the end of each trading session, frantic text messages do the rounds discussing the activities of institutional investors and their buy and sell calls of the day.

The obvious reason most would like to blindly follow is the investment strategies of large domestic and foreign institutional investors (FIIs), as they are perceived to be more informed than the average Joe on the Street.

It's well known that domestic institutions buy stocks when FIIs are selling, and sell when FIIs are buying.

Analysis of the ownership pattern of the Nifty 50 stocks shows that local and foreign investors not only differ when it comes to entering and exiting the market, but also regarding specific stocks.

This makes stock-picking by retail investors difficult, but market experts say they need to understand that institutional players do not have a cookie-cutter approach to investing.

An analysis of the Nifty 50 ownership done by Edelweiss Capital shows a clear divergence in stock picks by FIIs and DIIs.

For instance, ITC and L&T are the current favourites of DIIs as they are overweight on these stocks. But for FIIs, both the stocks are a strict no-no.

FIIs are clearly not betting on the Indian public sector companies and are overweight on stocks like HDFC (by 420 bps), Infosys (110 bps) and IDFC (110 bps).

In contrast, mutual funds (MFs) hold 83 per cent of the free float in SAIL and 88 per cent in PNB. Even in the private sector, domestic funds are overweight (compared to their weightage on Nifty) on stocks like L&T (630 bps) and ITC (830 bps).

This, observers say, is a clear pointer to the fact that retail investors should first understand what drives the stock picking strategy of FIIs and DIIs.

Believe it or not, FIIs own 73 per cent of the free float in DLF. Not surprising than that, this stock is missing from the top 10 stocks in the portfolio of MFs.

Explaining the variance in market strategy, Jitendra Mehta of Edelweiss Capital said, "Broadly, there seems to be a difference in perception, when it comes to domestic and foreign institutions.

Going by the top 10 stocks, where FIIs are overweight (HDFC, IDFC, Infosys Axis Bank and Bharti), it's safe to presume that this class of investors like companies with diversified ownership and professional management.

On the other hand, domestic institutions like to keep their faith in companies that have withstood the test of time and have been consistent in giving returns like L&T and BHEL."

For instance, due to macro headwinds and competitive pressures from Chinese players, L&T is not popular with FIIs, but mutual funds seem to be betting on this stock as it has given long-term returns.

Given that FIIs can at times have short-term horizon, they react much faster to macro headwinds.

For foreign investors, professional management is more important than the PE multiple of a stock.

For instance, many analysts say that even though other banking and financial services stocks are going cheap, FIIs have shown a distinct preference for plays like HDFC, even though it's expensive. The reason for this is the quality of management.

If belief is one determining factor, choice is another. Foreign investors have a much greater choice when it comes to stock picking compared to DIIs.

If a FII has to play in the capital goods sector, they have the choice to invest in Chinese or Korean companies, but if Indian institutions want an exposure to the capital goods, their best bet is L&T or BHEL.

Saurabh Mukherjea, head of research at Ambit Capital, says: "Domestic funds have to invest in L&T as it's a large component of the index, but for foreign investors India is a small part of the portfolio so they are under no compulsion. It's a matter of choice and FIIs have more flexibility in that sense than domestic funds."

Others point out a number of reasons for this divergent strategy of FIIs and DIIs. "In case of long-only focused funds, the fund manager is often taking investment decisions sitting in a foreign location. Obviously, he would rather play safe and not go for too much of stock picking," explains Nilesh Shah, President, Axis Bank.

An equity fund manager of a mutual fund house says one of the key reasons for this difference in approach is the availability of funds and need to generate alpha."

Barring the last three months, mutual funds have not received fresh money in their equity schemes in the last one-and-a-half years. In fact, there were outflows.

"So, fund houses were always constantly under the threat of redemption, and traded on their portfolio for generating alpha. So, when FIIs were bullish on a particular stock, MFs made a quick buck by turning sellers," adds the fund manager.

In addition, industry experts say MFs are more diversified in their investment strategy. No wonder, there is wide difference in their returns.

In the last one year, the best large cap equity fund has returned 16.70 per cent whereas the worst performing fund has returned (minus) 4.33 per cent.

 

Malini Bhupta, Joydeep Ghosh in Mumbai
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