CNBC's Inside India newsletter: The secret of the stock market rally

This report is from this week's CNBC's "Inside India" newsletter which brings you timely, insightful news and market commentary on the emerging powerhouse and the big businesses behind its meteoric rise. Like what you see? You can subscribe  here.

Squirreling away a portion of one's income for a rainy day would typically be considered prudent behavior. Yet, in India, it's helping make stocks overvalued.

Systematic Investment Plans (SIPs) were introduced to help investors periodically put aside money in a disciplined manner. SIPs deduct cash every month from an investor's bank account and invest the proceeds into selected mutual funds.

Strong and persistent marketing of the program over the past decade has meant that 90% of all contributions into domestic equity mutual funds last year were through SIPs. Contributions also hit a record high of 204 billion Indian rupees ($2.5 billion) in April, according to data from the Association for Mutual Funds in India.

While the program's benefits are apparent, from reducing friction for investing to removing the need to time the market, SIPs have also been partly responsible for pushing Indian stock markets to record valuations since they force fund managers to buy stocks regularly.

For instance, while the portfolio managers of India's three largest multi-billion-dollar equity funds, the SBI Equity Hybrid Fund Regular Growth, HDFC Mid-Cap Opportunities Fund-Growth, and ICICI Prudential Balanced Advantage Fund, have sufficient leeway to hold incoming deposits as cash temporarily, their hands are often tied by their mandates to keep the funds fully invested.

As more money is directed toward these funds monthly,  the portfolio managers are forced to buy stocks even when their valuations