Mumbai: For foreign institutional investors, or FIIs, the India story is far from over, despite the all-round gloom surrounding the economy since the middle of last year.
In a year the country’s most tracked stock market index— the Bombay Stock Exchange’s Sensex—plunged 53%, a record number of new FIIs entered the country in 2008, 15 years after India opened the doors to this class of investors.
Overall, 454 new FIIs registered with the Securities and Exchange Board of India, or Sebi, last year—equivalent to almost one-fourth the total operating in the country at the end of 2008. Some closed shop too, but the net increase in the number of FIIs was still a sizeable 375.
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To be sure, Sebi’s curbs on so-called participatory notes, or PNs, which are offshore derivative instruments based on Indian securities and issued by foreign funds that are not registered in India, were the biggest factor contributing to the increase.
In October 2007, Sebi banned the fresh issue of PNs based on Indian equity derivatives in a bid to stem capital inflows from unregulated and anonymous foreign investors.
The regulator also asked FIIs and their sub-accounts to wind up existing positions in 18 months. While Sebi’s focus was primarily on the “quality of anonymous money”, the move also attempted to stabilize the rupee exchange rate against the dollar, in which the investments were being made.
According to Sebi, there were 34 FIIs and sub-accounts issuing PNs in August 2007 and the outstanding value of their exposure was around Rs3.53 trillion, about 51.6% of the net assets owned by all FIIs in India. Excluding PNs with derivatives as the underlying assets, the value was a little more than 30% of the entire FII ownership in Indian markets.
A year later, in October 2008, Sebi lifted the curbs, with the pace of economic growth slowing, companies facing a credit crunch and foreign investors fleeing the stock market. Interestingly, in the period from October to December, when the Sensex dropped to the year’s lowest, at least 100 new FIIs registered with Sebi.
Despite the addition of hundreds of new FIIs, Indian equities saw $13.34 billion (Rs65,499 crore now) in net capital outflows in 2008, the highest since foreign investors started buying Indian equities. Till date, they have invested $47.33 billion in Indian equities, net of sales.
The market value of the FII portfolio in Indian stocks has dropped about three-fourths, or about $190 billion, around end-October to below $60 billion. More than their sale of stocks, the erosion in the value of FII investments contributed to the decline, worsened by a 20% drop in the value of the rupee against the dollar.
The huge outflow of 2008 was largely driven by the subprime mortgage crisis in the US market, which plunged the financial industry in the world’s largest economy into turmoil, caused the collapse or takeover of once-venerable institutions and eventually led to global recession.
India’s own economy is slowing, with growth this fiscal year pegged by the government at 7-7.5%, down from the 8.9% average over the previous four years. The Sensex, which hit a lifetime high of 21,206 in January 2008 after a five-year rally, is down to less than half that level.
Still, the record increase in the number of FIIs operating in the country is in sharp contrast with previous downturns.
In 2000, when the Sensex dropped about 20%, 74 FIIs fled the Indian equity markets and the number of such investors in India dropped from 556 to 482. The next year ,when the Sensex dropped close to 18%, only seven new FIIs entered the market.
The total number of FIIs in India has almost tripled from 556 at the beginning of 2001 to 1,594. Last year, about one-third of the new FII registrations were from the US, and the UK came a distant second as the home of new FIIs that entered India last year.
According to brokerages, even though the number of FIIs has swelled, not everyone is active in the market.
“Less than 100 FIIs are active in India, though there are 1,000-plus registrations,” said a senior executive at a foreign brokerage who did not want to be named as he is not authorized to speak to the media.
While the number of active FIIs may be few, brokerages are convinced about the quality of investors that are entering India now. According to them, some of these FIIs, which registered during the last quarter of calendar 2008, could have come with long-term investment plans in India.
“Given that India will continue to grow at a healthy rate relative to the rest of the world, the equity markets would start reflecting the robust fundamentals over time,” said Prashant Sharma, head of investment at insurer Max New York Life Insurance Co. Ltd.
Graphics by Ahmed Raza Khan / Mint