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Bias - The Indian trader's fixation with institutional flows
& John Mathew - 2nd year student at the two year MBA programme
The Indian Market is a fascinating market to study for the behavioral finance school of thought. The behavioral biases in the Indian markets are many. It has been my effort to take a closer look at one such important bias of the Indian markets. Often trading positions are taken by both day traders and view based traders in India based on Foreign Institutional Investor (FII) and to a lesser extent Mutual Fund (MF) fund flows. Day traders contribute close to 80 percent of the total traded turnover on the Indian bourses. The purpose of this article is to see whether this fixation of the trader in the Indian stock markets with institutional fund flows is justified or not ?
For this study we have examined the daily net flow of mutual fund and foreign institutional investors flows over a four year horizon and tried to determine whether these fund flows really influence the daily movement in the market as is the perceived notion. The popular barometers of the Indian market are the Sensex (consisting of 30 blue chip stocks) of the Bombay Stock Exchange (BSE) and the Nifty (consisting of 50 blue chip stocks) of the National Stock Exchange (NSE). FII's and Mutual funds invest predominantly in Sensex and Nifty stocks. We have considered daily net flow of FII & MF data for the period from Jan 1999 to Mar 2004 and compared the same with daily Sensex and Nifty movements.
The correlation between daily net FII inflows and daily Sensex movement was .248 where as that between daily FII flows and daily Nifty movement was .281. This clearly shows that day traders and momentum traders who take positions based solely on daily FII flows stand a very high probability of losing money.
For the same period the correlations between daily Mutual Fund (MF) net flows and the daily Sensex and Nifty movement was .076 and .083 respectively. The correlations between daily total Investments (MF +FII) and Sensex and Nifty was .321 and .327 respectively. Using Pearson correlation test we can conclusively say that these result's indicate that the co-movement between FII and Mutual Fund flows and the Sensex/Nifty is weak.
The purpose of this
article is to provide an explanation as to why a large numbers of traders in the
Indian market end up losing money. Their fixation with fund flows and inability
to look at other important variables could be an explanation. Analysis of the
daily Jan 1999 to March 2004 data shows that that the correlations between Sensex
movement and Cash Market Turnover on the BSE was 0.626 and that between the Nifty
and Cash Market Turnover on the NSE was 0.702. This result indicates a very strong
positive correlation between the index movements and turnover. Are our biases
making us look in the wrong direction?
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