Net redemptions from equity mutual funds jumped to Rs 3306 crore in September, for a fourth month in a row, according to data released by industry body Association of Mutual Funds in India (AMFI).
Redemptions surged even after equity funds in India last month posted their best returns since January, benefitting from a rally sparked by government fiscal and economic reforms and monetary stimulus from global central banks.
The bulk of fund sales came from retail investors who had plowed money into equity plans in 2007-2008, often for the first time, but who went on to stomach a volatile period in Indian stock markets that pressured fund returns.
"These are primarily the last leg of redemptions from the NFOs (new fund offers) that hit the market in 2007-08," said Dhirendra Kumar, CEO of mutual fund tracker Value Research.
"They were first-time investors who came into the market on the hype then, but have been greatly disappointed and are now just beginning to recover some of their losses."
The BSE Sensex has gained around 22 percent this year, making it one of the top performing markets in the region. On Monday, the index slipped 0.9 percent heading for a second session of losses.
The rally has been driven by foreign institutional investors, who have bought a net Rs 85,710 crore in Indian equities, after being sellers last year.
By contrast, asset managers in India are facing falling domestic equity investments during a time when they are already reeling from stiff competition in a crowded marketplace.
The majority of India's 44 fund houses are unprofitable according to their annual financial reports.
The industry is also constrained by heavy regulations and burdensome 'know your customer' rules that make opening funds for retail investors complicated in India.
Indian stock markets have also been volatile. After surging in 47.2 per cent in 2007, the BSE index has posted big annual swings, and is still nearly 11 per cent below a record high hit in January 2008.
"Market is beginning to go up in a sustained way but it has to stick for a while to get the new fund investors' attention ... investors chase past performance," Kumar said.
September's outflows bring equity withdrawals so far this year to Rs 9673 crore, the second time in three years when redemptions could outpace new investments.
Though equity funds make up less than a quarter of overall assets under management in India, they provide asset managers with higher management fees, making them key for profitability.
Copyright Thomson Reuters 2012