Sanjeev Prasad has for some time now highlighted the very rich valuations of Indian stocks, pointing out the big disconnect between potential earnings growth and the price multiples that companies are trading at. He has a point. A whole bunch of stocks is trading at absurdly high multiples which price in earnings growth that would be hard to achieve on a sustained basis. In an interview to The Ken, the managing director and co-head of Kotak Institutional Equities has sought to temper the hype surrounding mutual funds. He observes that around 40% of retail flows, post-2021, have possibly yielded nil or poor returns primarily because a good chunk of this money was invested after the markets had rallied a fair bit. Approximately Rs 4.2 lakh crore is estimated to have come in between 2021 and 2023 and another Rs 4 lakh crore in 2024 when the markets had already run up. The early birds would have made good money but not the latecomers.
Retail investors face challenges
Prasad argues that the weighted average return of an average retail investor would probably be lower than market returns over the past 4+ years. That is not really surprising. With stocks over-valued, the starting point for many retail investors would have been somewhat unfavourable. So, while the markets should move up over the long term, and investors will no doubt make money, the returns would be more moderate. Ideally, investors should start investing in a fairly valued market, says Prasad, and keep going over a long period of time. In that case, with the economy growing, earnings also growing in line with the nominal GDP growth, and the market cap of the country rising too, they will be fine.
That’s a fair point. But retail investors tend to be swayed by sentiment and are less focused on ground realities. Typically, they should invest more when the markets are down but it’s the reverse that happens possibly because of the fear of missing out. Also, they are probably hoping that systematic investment plans (SIPs), which are designed to enable what is called dollar cost averaging, should play out over the longer term. That could well happen;if the markets see a correction, their acquisition costs would fall.
SIPs keep the market afloat
Right now, though, the deluge of cash into mutual funds is supporting an overvalued market. The result of the retail rush in 2024 and 2025 is that stocks have become very expensive. This is despite the not-so-favourable outlook for the economy and corporate earnings, the heightened competitive intensity in many sectors, and disruptions from geopolitics. And it is the small investors that are keeping the market afloat. Domestic institutions have invested a whopping $82 billion in mutual funds since October 1, 2024, after the markets indices hit a peak on September 26. In contrast, foreign portfolio investors (FPIs) have sold a little over $27 billion. Moreover, promoters of listed companies as also investors in start-ups—venture capitalists (VCs) and private equity (PE) firms—have also been sellers in the last couple of years, with the latter cashing in on the appetite for initial public offerings. In a sense, small investors provided an exit to FPIs, promoters, and PE/VCs. Fund houses, of course, are not complaining. Prasad points out the Association of Mutual Funds in India no longer provides data on net SIP flows. The information would give us a more realistic picture of the flows.