Equity markets in India are getting pummelled, and yet, buyers seem to be conspicuous by their absence. After being down almost 20 per cent in dollar terms in the month of September alone, markets have declined another 20 per cent-plus in October.

For the year till date, a dollar-based investor would be down more than 60 per cent, and in excess of 70 per cent if he/she had the misfortune to be largely invested in midcaps. Despite a price destruction of such magnitude, buyers still remain absent. What can explain this puzzling behaviour? Why are investors not piling in now?

The first issue is the huge and frankly unprecedented volatility in global equity markets. I have been following this for many years, but one has never seen such sustained volatility and fear. With such exaggerated volatility, the price for being too early is unacceptably high. One could be a buyer of fundamentally sound companies at reasonable valuations and still be down by 25-30 per cent in a matter of days, just because you had bought too early.

In today's environment, where 25 per cent can be your total return in a good year, investors cannot stomach an entire year's return disappearing in a matter of a few days. For anyone running portfolios which are marked to market and accountable to investors on a quarterly or monthly basis, such outsized drawdowns are difficult to digest.

There is also a general perception that given the magnitude of price destruction, there is no need to be early, as markets will take time to form a base and thus give one ample opportunity to enter equities post their bottoming out. A V-shaped rally looks unlikely given the proliferation of stranded sellers at all price points. Given the extent and pace of market decline and existing losses, investors do not have the risk appetite to be early.

Secondly, there is the issue of who has the money to buy now? Most international funds have redemptions, with the majority of the withdrawals coming from European fund of funds. Having taken on leverage themselves, these fund of funds are now being forced to shrink and call back capital as they delever.

It is also almost impossible to raise new money for India right now. LPs have far more serious issues that they are tackling in the OECD financial markets, and India is frankly off the map. There are also concerns around capital flows to the whole emerging market asset class. With risk appetite in short supply, and OECD market valuations cheap, will investors be willing to venture into the EM asset class as aggressively as in 2007? As OECD financial markets get cheap, their expected return profile improves and this may negate the need of many institutions to boost returns by venturing into international markets.

One should also expect significant consolidation among funds over the coming three to six months. Many funds may simply give up given the extent of losses and we could see one more leg of final capitulation selling as some funds fold.

Investors have been shell-shocked at the pace of decline in Indian markets and the steep deterioration in our macro-fundamentals. For a market once positioned as being the most immune in Asia to the global financial crisis and US slowdown, we have not lived up to our billing. Domestic redemptions have also started to accelerate and even for insurance companies, the mix of new sales is moving away from the once-total reliance on unit-linked insurance products.

The harsh reality is that having absorbed over $ 10 billion of FII selling in the calendar year, there is now limited buying power left among the domestic investor base. Those funds which do have cash are conserving it for possible future redemptions.

Third, there are macro-issues around India to which there are no easy answers. The economy is clearly slowing, but to what rate is still unclear. Consensus expectations of 8 per cent GDP growth this year look to be too high, and an acceleration in FY 2010 even more unrealistic.

How long will this slowdown continue? Its impact on corporate earnings? The consensus still expects double digit earnings growth for FY 2009 and FY 2010, but given the crack in commodities, spike in financing costs and the GDP slowdown, low single digit earnings growth looks to be the best case. In that context the market is not particularly cheap, especially from a relative perspective. Sure there are individual companies which look very cheap, but the large liquid companies still do not look like sure things.

There is also the issue of India's dependence on external capital. We were able to get around our fiscal constraints and not crowd out private sector investment, due to access to global capital flows by corporate India. With the credit crisis, this access has now been cut, and the rupee depreciation has raised debt burdens by 25 per cent.

With corporate India once again forced to compete with the government domestically to finance its investments, interest rates cannot drop by much till growth slows and demand for credit cools. Rising costs of credit and constrained access may also pressurise credit quality. Unless the government gets its fiscal house in order, we may be in for a greater slowing of both the GDP growth and corporate earnings than the market is currently prepared for.

The country will have to face elections in the next six months, and these results will be critical in determining the pace and direction of the country's reform programme. The last six months have shown once again that investors cannot ignore policy risk, when looking at large emerging markets like India.

For investors to be willing to look through the coming valley of earnings and GDP slowdown, they need to have more comfort on the above issues. Currently there is too much uncertainty for investors to be able to dimension the downside.

While the longer-term drivers for India in terms of demographics, productivity improvements and urbanisation are in place, buyers are not willing to bite right now.