Squeezed by a sluggish, over-valued secondary market and a growing fear of missing out, India’s mutual funds are pushing more money into initial public offerings (IPOs) in search of better returns as they continue to receive robust flows.
Mutual funds typically participate in IPOs as anchor investors or qualified institutional buyers (QIBs), routes also used by foreign institutional investors (FIIs), banks, insurers, alternative investment funds, and venture capital funds.
In the 10 months ended October, mutual fund investments in IPOs jumped 38% to ₹25,966 crore compared with the same period last year, as per data from Primedatabase.com. The share of mutual funds in total money raised via IPOs has also gone up to 20%, as against 18% a year ago.
In contrast, institutional investors, other than mutual funds, saw their IPO participation fall or remain muted over the same period.
The share of Foreign Portfolio Investors (FPIs) in the total money raised fell to 26% during January-October, as against 31% in the same period last year. The share of insurance companies fell to 4% from 6% in the same period. The share of financial institutions and banks was up from 3% to 4%, while the share of AIFs and venture capital funds remained unchanged at 2% and 0.5%, as per Primedatabase.com.
India’s IPO market has been buoyant this calendar year, with companies raising ₹1.3 trillion till October, as compared to ₹1.03 trillion raised in the year-ago period.
Experts said mutual funds are trying to deploy the steady inflow of retail money towards primary market issuances, with an expectation that it will allow them to generate better returns. This comes at a time when there are lesser compelling opportunities in the secondary market, where valuations remain expensive. So far this year, mutual funds received ₹2.91 trillion in net flows in equity schemes, as against ₹3.16 trillion in the year-ago period, per Association of Mutual Funds of India (Amfi).
“Mutual funds have to make use of the continuous flow of money from retail investors, and hence we see asset managers investing increasingly in IPOs,” said Pranav Haldea, managing director at Prime Database Group.
In the ten months ended October, Nifty 50 has retuned around 8%. However, it has still not been able to touch its September high in 2024, when the markets started correcting.
Among the IPOs that have done well this year are Anand Rathi Stock Brokers Ltd, which is up 60% since listing and Ather Energy, up 117%.
“If something is served to you on the table, you are slightly more inclined to buy that rather than the already existing 1,000 stock options in the secondary market, where research is needed,” said Umeshkumar Mehta, chief investment officer at Samco Mutual Fund. “There is this human behavioural and recency bias towards IPOs as they are talked about a lot in the media. Investment bankers aggressively pitch IPOs to mutual funds.”
Mehta added that fund managers also think that if they do not invest in an IPO and if the stock performs well, they will miss out on the upside and the fund’s returns may lag. Samco, he said, participates in 1 of 10 IPOs.
Large inflows are also to blame.
“Because of the continuing flows, the size of many funds have become larger than what they can absorb and in such situations it becomes difficult to allocate in the open market without impacting the prices,” said George Thomas, fund manager at Quantum Mutual Fund. In such cases, mutual funds might prefer the IPO route because it allows them to deploy a sizable amount without facing liquidity constraints, Thomas added. Quantum MF’s house view is to avoid investing in IPOs as most leave little room for any equity investor to make money in the long term.
Mutual funds’ enthusiasm is also seen by some as a byproduct of the bull market. Siddarth Bhamre, head of institutional research at Asit C. Mehta Investment Intermediates Ltd said IPOs are a function of a bull market.
“As markets rise, promoters get comfortable with richer valuations and rush to tap the market, while expensive secondary markets push fund managers towards primary issues in search of alpha,” said Bhamre.
Experts add that most funds do not have capacity guardrails on how much flows they can absorb in a fund, and hence they continue to take additional money in their funds. And even if the funds know how much capacity they can absorb, they choose to not halt additional flows, as it will lead to a drop in their revenues.
Asset management companies (AMCs) earn money from total expense ratio (TER), which is charged as a percentage of the assets it manages. A fall in the assets under management (AUM) then leads to lower revenues for the AMC.
Pricey valuations
Mutual funds have been investing in IPOs even when valuations were at par or even higher than listed peers, stating that they are in for the long-term, and hence higher valuations would be justified with the growth potential a stock has over the long-term.
However, a Mint analysis of the top five IPOs mutual funds bought by value shows they have already exited a part of their investments in these stocks, which puts a question–are these mutual funds really waiting for the long term?
Mint analyzed IPOs in the first 10 months of the year and picked the top five that raised the highest money from mutual funds who participated as anchor investors. Moreover, it looked only at those IPOs where the lock-in was open and mutual funds were allowed to sell. Anchor investors have a lock-in period of three months after which it can sell 50% of their investment in the IPO, and after six months, they can sell their investment completely.
Take HDB Financial Services for example, where 65 mutual funds participated as anchor investors; since then, 32% of them have completely exited the stock, as per data from Primedatabase.com and Morningstar. In the case of Ather Energy, 35% of the mutual funds who invested as anchor investors have completely exited, and with Hexaware Technologies, the number is 26%.
The number of mutual funds exiting is not as high in Anthem Biosciences and Schloss Bangalore Ltd that owns The Leela Palaces–only 11% and 10% of the investor mutual funds have completely exited.
“We are seeing more mutual funds starting to trade often (being for short-term), to generate some more returns because with secondary markets moving nowhere, primary may give some opportunity for generating returns,” said another institutional broker on the condition of anonymity.
What’s keeping other institutional investors away?
Foreign institutional investors do not have a mandate to remain largely invested in India, and their broader view on the country market has turned cautious. With sentiment weak, they are staying away from primary markets too.
FIIs are underweight on India because valuations are still expensive while earnings growth is moderating amid a slowdown in demand, said Dhananjay Sinha, chief executive officer and co-head of institutional equities at the Systematix Group.
India is trading at a trailing price-to-earnings ratio of 23x, while China’s CSI 300 index is 17x, and that for the US Dow Jones is 23x—implying India’s market is relatively expensive compared to China’s and priced similarly to the US.
Markets such as the US and China are offering better profit growth and lower valuations, Sinha said. “With India looking less attractive on both growth and valuation metrics, global investors continue to show weak interest, which is why their participation in the secondary market, IPOs and other issuances remains muted,” he added.
Sinha said India’s corporate earnings growth doesn’t look to be improving. “Despite GST (goods and services tax rate) cuts, we haven’t seen any significant consumption pick-up. So, returns may be statistically higher than last year, but Nifty 50 earnings growth will be around 6%,” Sinha added.
