The Withdrawal of Retail Investors From The Markets is Not Unique to India

India's retail investors have been crowding into Indian equity markets over the last few years. Driven by strong expectations, the Indian market has been one of the best-performing markets globally. However, over the last year, retail participation in Indian markets has been on a downtrend.

According to National Stock Exchange's (NSE) Market Pulse report, retail contribution to the total turnover in the NSE's cash market decreased to 36.5 per cent in the financial year 2023 (FY23) from 45 per cent in FY21.

In March 2023, retail contribution to the total turnover dropped even further to 33.1 per cent. The 12 percentage point drop in retail's market share points towards a withdrawal of retail investors from India's cash markets.

In addition, equity mutual fund inflows in April have fallen by a third compared to March.

Despite the current discussions around Indian retail investors exiting the market, one must note that the situation is not unique to India.

Why Did Retail Enter the Markets in Recent Years?

A combination of strong market sentiment, increasing awareness about the markets, and the ease of accessibility to the stock markets has propelled Indian investors to invest.

Even a decade back, awareness about the markets and accessibility was limited, and the lacklustre performance of the Indian markets until 2013 meant that retail participation was low. However, with a stable government at the centre and India's financial troubles ebbing, retail participation began growing from 2014 onwards.

The market's performance, of course, was the main factor behind increasing retail participation. At the same time, the increased use of social media supported by cheaper internet and the rise of discount brokers like Zerodha fuelled the boom in the number of retail investors entering the market.

The stock markets, seen as complex or shady by many, received a makeover as influencers, and others helped demystify the markets for many.

After the pandemic, the loose financial policies used by the central banks to prevent the economy from collapsing helped pump in liquidity in the markets and push up markets. The strong performance, again helped attract investors. The total number of demat accounts jumped from 4 crores in FY20 to more than ten crores in FY23. The number is nearly a 9-fold jump since FY10.

Across countries, a similar pattern emerged – a strong market helped attract retail investors, and ease of access made it easier for these investors to make money. Robin Hood in the US, Trade Republic and eToro in Europe, Futu Holdings in China and several others made apps targeting retail audiences – offering low costs, ease of trading, and a 'gamified' app to keep users hooked.

Retail participation increased globally during the pandemic, not only in stocks but other financial assets like cryptocurrency. Again, cryptocurrencies and tokens were strong performers until a year back.

Are Retail Investors Just Trend Followers?

From the above data, it is quite clear that retail market participation is a function of market returns, making it a double-edged sword.

Market returns over the last year have been lacklustre, and that has caused retail investors to refrain from investing.

Often, the SIP stoppage ratio (ratio of SIPs stopped to SIPs started) moves in a direction opposite to market performance, indicating that a larger number of people are stopping SIPs than the number of people who are starting them.

Despite the constant talk about being counter-cyclical and disciplined investing in times of uncertainty, retail investors have almost always exhibited trend following behaviour – one of the reasons why retail-dominated markets tend to have higher volatility even when one controls for earnings volatility. But there could be other reasons for the slowdown as well.

For instance, inflation would have eaten into investors' savings, resulting in a lower ability to invest. Further, uncertainty about income during a period of slowdown, due to job losses or slow business performance is also a factor in the lowered propensity to invest.

Despite the withdrawal in the cash markets, the silver lining in the Indian markets is that inflows into equity funds are still positive and have increased by more than 50 per cent when compared to the previous year.

The withdrawal of retail investors from stock markets, however, is not limited to India.

The United States has seen retail investors' share of trading flows fall from 23 per cent earlier to 16 per cent now. And this is despite US households having a long history of investing in the stock markets, where 20 per cent of households had exposure to the markets in 1990.

In India, the figure is still likely to be under 5 per cent. Unfortunately, the numbers show that even with experience, retail investors often appear to repeat the same mistakes.