Foreign Portfolio Investment (FPI)

Foreign Portfolio Investment (FPI) is frequently used in business and economic aspects. What does it mean? Why has SEBI recently proposed additional disclosures from FPIs? Read here to learn more about FPI.

A consultation document on new rules for further public disclosures by foreign portfolio investors with INR250 billion ($3.7 billion) or more in equity assets under management has been released by India’s Securities and Exchange Board (SEBI).

The proposed laws may have an impact on high-risk FPI assets under management worth around INR2.6 trillion ($38.3 billion), or 6% of all FPI equity assets under management and less than 1% of India’s overall stock market capitalization.

FPI is watched carefully by experts as it is an indicator of the stock market’s performance. FPI also enhances stock market efficiency and ensures that there is a balance between the value and the price of a stock.

Also read: Foreign Direct Investment (FDI) in India: Definition and Statistics

Foreign Portfolio Investment (FPI)

Investing in assets and securities outside of one’s nation is known as foreign portfolio investment or FPI.

• Stocks, bonds, exchange-traded funds (ETFs), and mutual funds are a few examples of these investments.
• One way for an investor to participate in a foreign economy is through this.

Portfolio investments are sometimes seen less favorably than direct investments since they may be quickly sold off and are thus seen as a short-term attempt to gain money rather than a long-term investment in the economy.

• Portfolio investments frequently mature sooner than direct investments do. Like with any stock investment, foreign portfolio investors often expect to see a return on their funds very quickly.
• Because securities are frequently traded, the liquidity of portfolio assets makes them easier to sell than direct investments.
• Portfolio investments are far more accessible to the average investor since they need substantially less investment capital and due diligence than direct investments.

FPI is part of a country’s capital account and is shown on its Balance of Payments (BOP).

In India, foreign portfolio investment is regulated by the Securities and Exchange Board of India (SEBI).

• FPI in India refers to investment groups or FIIs (foreign institutional investors) and QFIs (qualified foreign investors).
• SEBI has introduced the Foreign Portfolio Investors Regulations, 2019.
• FPIs also need to follow the Income-tax Act, of 1961 and the Foreign Exchange Management Act, of 1999.

One can register FPI in one of the below categories:

Category I (low risk): This includes investors from the Government sector. Such as central banks, Governmental agencies, and international or multilateral organizations or agencies.

Category II (moderate risk): Regulated broad-based funds such as mutual funds, investment trusts, and insurance/reinsurance companies. It also includes regulated banks, asset management companies, portfolio managers, investment advisors, and managers.

Category III (high risk): It includes those who are not eligible in the first two categories. It includes endowments, charitable societies, charitable trusts, foundations, corporate bodies, trusts, and individuals.

An individual must fulfill the following conditions to register as FPI:

• As per the Income-tax Act 1961, the applicant should not be a non-resident Indian
• Should not be a citizen of a country that falls under the public statement of FATF.
• Must be eligible to invest in securities outside the country.
• To invest in securities, he/she must have the approval of the MOA / AOA / Agreement.
• A certificate that grants the applicant holds an interest in the development of the securities market.
• In case the bank is the applicant, it must belong to a nation whose central bank is a member of the Bank for International Settlements.

Factors and Risks Related to FPI

Here are some factors affecting Foreign Portfolio Investment:

• Future Prospects: A nation’s economy is key to attracting international investment. Investors are more likely to invest in a nation’s financial assets if its economy is strong and expanding. Investors, on the other hand, tend to sell their investments if the nation experiences financial instability or a recession.
• Rates of Interest: A high return on investment is what investors seek. As a result, investors like investing in nations with high-interest rates.
• Rates of Tax: Capital gains are subject to taxation. The return on investment is decreased by higher tax rates. As a result, investors like investing in nations with lower tax rates.

Foreign Portfolio Investments have some risks associated with them – for both the investors and the destination country. Here are a few risks involved in it:

• Exposure to Political Risk: Political risk might arise as a result of the altered political climate. As a result, economic policies, repatriation laws, and investment requirements all alter.
• Liquidity is low: Because of the frequently low levels of capital market liquidity in emerging nations, price volatility is generally higher.

Benefits of Foreign Portfolio Investment

• Foreign portfolio investments increase investor demand for a company’s shares and aid in their ability to raise funds efficiently.
• The secondary market’s depth would significantly increase with the existence of FPI.
• From the standpoint of the investor, it enables them to diversify their holdings and gain from that diversification.
• Changes in currency rates might be advantageous to investors as well.
• International markets provide investors access to a larger market that is occasionally less competitive than their local market. This indicates that companies profit from less competition elsewhere.
• The fact that FPI is liquid ensures that the investor is empowered and can act quickly when there are attractive opportunities.

Difference between FPI and FDI

• When a direct commercial interest is developed abroad, the term Foreign Direct Investment (FDI) is used. This commercial interest may, for instance, be a manufacturing or storage facility.
• An FDI includes the formation of a joint venture or a subsidiary and may result in the transfer of resources, knowledge, and money.
• FDI is larger and more long-term than foreign portfolio investment.
• Institutions or venture capital firms invest in FDI. FPI just makes investments in the assets or securities of another nation.
• FPI entails purchasing shares or bonds that are made available on the exchange of the foreign nation. Since FPI is liquid, buying and selling it is simple.
• Passive investors are involved in FPI, whereas active investors are the focus of FDI. When compared to FDI, FPI is a less long-term kind of investment because it is not a direct investment.

New SEBI Proposal

SEBI has identified several issues with FPIs:

• Concern over promoters of such corporate groupings or other investors working in concert is raised by concentrated investments made by some FPIs. These investors may be exploiting the FPI approach to get around regulatory constraints.
• An entity of a nation having a land border with India may invest exclusively via the Government Route, although this restriction can be avoided by using the FPI route.

SEBI’s new proposal includes:

• FPIs may be further categorized as Low (Government and related entities), Moderate (Pension Funds or Public Retail Funds), and High Risk (All other FPIs).
• Enhanced transparency measures for fully identifying all holders of ownership, economic, and control rights may be mandated for certain objectively identified high-risk FPIs.
• FPIs with an exposure of more than 50% to a single group or with assets of over Rs 25,000 crore will be tagged as ‘high risk’ and will be required to provide additional information.
• Disclosures by FPIs must be unconstrained by any thresholds set by PMLA (Prevention of Money Laundering) rules and FPI regulations.

Also read: Masala Bonds: Concept Explained With Video

Way forward

Investors that want to diversify their portfolios by investments in shares, bonds, mutual funds, or other assets or securities located abroad make international portfolio investments.

FPIs are often higher in developing nations with large development potential. FPI is crucial since it fuels the stock markets and increases the liquidity of the host nation’s capital markets.

­-Article written by Swathi Satish