Price Discovery between Benchmark Indices and Mutual Fund Net Asset Values: Evidence of Equilibrium and Disequilibrium in the Indian Capital Market

Abstract

Whether mutual fund prices merely echo the benchmark indices they track, or instead absorb macroeconomic information through channels of their own, remains an unsettled question in emerging-market finance. This paper investigates that question for India by tracing the co-movement among three National Stock Exchange (NSE) benchmarks — NIFTY 50, NIFTY Midcap 150 and NIFTY Smallcap 250 — four categories of open-ended equity mutual funds (large-cap, mid-cap, small-cap and hybrid), and five macroeconomic indicators (the Wholesale Price Index, the Consumer Price Index, the Index of Industrial Production, the USD/INR exchange rate and the RBI repo rate). Using 156 monthly observations from January 2011 to December 2023, the study applies the Augmented Dickey-Fuller and Phillips-Perron unit-root tests, Johansen’s cointegration procedure, a Vector Error Correction Model (VECM), and pairwise Granger causality tests. Six statistically significant cointegrating vectors point to a durable long-run equilibrium linking indices, funds and macro fundamentals. Yet the short-run causality results are not uniformly consistent with that equilibrium: the Consumer Price Index fails to Granger-cause large-cap fund valuations even though the Wholesale Price Index does, and the repo rate shows no discernible short-run influence over small-cap fund NAVs despite its centrality to conventional monetary-transmission theory. These departures from theoretical expectation — rather than the confirmatory findings alone — form the substantive contribution of the paper, and are read as evidence of segmented information processing across fund categories. Implications are drawn for retail investors, fund managers and market regulators operating in an increasingly integrated but still unevenly efficient capital market.