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New FPI norms and H R Khan Committee [Mains Article]

The Securities and Exchange Board of India has recently eased norms for Foreign Portfolio Investment (FPI) in India based on the report submitted by H R Khan committee. Experts say that this easing in norms for FPIs would give a fillip to overseas investment in the country.
By IT's Mains Articles Team
August 31, 2019

Content

  • What is Foreign Portfolio Investment?
  • Difference Between FPI and FDI
  • SEBI eases requirements for FPIs
  • H R Khan Committee Report on FPI Norms
  • What are the current regulations for NRI and PIOs investment in India?
  • Advantages of the new norms
  • What are Participatory Notes?
  • Key facts
  • Conclusion

New FPI norms and H R Khan Committee 

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What is Foreign Portfolio Investment?

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  • The Foreign portfolio investment (FPI) consists of securities and other financial assets held by investors in another country.
  • The assets could be bonds, stocks, mutual funds, or exchange-traded funds (ETFs) that invested in assets abroad or overseas.
  • It does not provide the investor with the direct ownership of a company’s assets.
  • It is relatively liquid depending on the volatility of the market.
  • FPI is one of the common ways to invest in an overseas economy.
  • The FPI is part of a country’s capital account and shown on its balance of payments (BOP).
  • Unlike Foreign Direct Investment (FDI), FPI consists of passive ownership i.e. investors have no control over direct ownership of property or a stake in a company.

Categories of FPIs

Based on Risk profile, from Low to High, 3 categories have been formed by SEBI. Category 1 being Low risk and Category 3 for high risk entities

Category I (Low Risk)

  • It includes Government and Government related entities such as Central Banks, Governmental agencies, sovereign wealth funds and international or multilateral organizations.

Category II (Moderate Risk)

  • Regulated broad-based funds such as mutual funds, investment trusts, insurance companies
  • Regulated persons such as banks, asset management companies
  • University Funds, Pension Funds and University related Endowments

Category III (High Risk)

  • All others FPIs not eligible under Category I and II such as endowments, charitable societies, charitable trusts, foundations, corporate bodies, trusts, individuals and family offices

Difference Between FPI and FDI

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  • In FPI investors do not have direct control over the assets or the businesses whereas in FDI an investor purchase a direct business interest in a foreign country.
  • FPI is more liquid than FDI and offers the investor a chance for a quicker return on his money—or a quicker exit whereas in FDI an investor helps to build the business and waits to see their return on investment (ROI). It is a long term investment and hence less liquid.
  • In FPI an investor can quickly leave an investment nation over the negative news of return whereas in FDI investors can’t leave easily as they invest big amounts in infrastructures etc.
  • Foreign portfolio investments are more suited to the average retail investor while FDI is more apt for institutional investors.

SEBI eases requirements for FPIs

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  • To simplify and expedite the registration process of FPIs, SEBI has cleared some proposals.
  • The FPI regulations have been redrafted based on the recommendation of HR Khan Committee report.
  • The FPIs would no longer be required to meet the ‘broad-basing’ criteria, under which at least 20 investors were required to establish a fund.;
  • Securities and Exchange Board of India (SEBI) simplified KYC requirements for FPI and permitted them to carry out an off-market transfer of securities.
  • The offshore funds floated by Indian mutual funds will be permitted to invest in the domestic markets under the FPI route.
  • Under the new framework, FPIs will be classified into two categories instead of three.
  • The central banks that are not members of the Bank for International Settlements will be eligible for registration as FPIs to attract more overseas funds into the market.
  • Changes have also been suggested regarding the identification of senior managing officials of FPIs and for beneficial owners of listed entities, as well as disclosure of personal information.

About H R Khan Committee:

  • Both the FPIs and the investors had serious concern over the SEBI norms and want to review the norms by SEBI. FPIs shows concern over that the FPIs norms will result in restrictions on investments however SEBI dismissed any such fears.
  • Accordingly, SEBI constitutes H R Khan Committee to review FPI norms and concern raised by the investors.

H R Khan Committee Report on FPI Norms:

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  • The committee categorized the recommendation into four buckets i.e. FPI Registration process, KYC and documentation, Investment permission and limits and other aspects.
  • The committee recommends that OCIs, NRIs, and RIs should be allowed for holding a non-controlling stake in FPIs and no restrictions should be imposed on them for managing non-investing FPIs or SEBI registered offshore funds.
  • According to the committee, NRI will be allowed to invest as FPIs if the single holding is under 25% and group holding under 50% in a fund.
  • The panel recommends for easing KYC requirements for beneficial owners in case of government related FPIs.
  • The committee recommended that erstwhile PIOs should not be subjected to any restrictions and clubbing of investment limits should be allowed for well regulated and publicly held FPIs that have common control.
  • The committee also suggests that the time for compliance with the new norms should be extended by six months after the finalization and the non-compliant investors should be given another 180 days to reconcile their existing positions.
  • The panel also recommends that the new rules should be equally applied to the investors using participatory notes (P-notes).
  • The panel also suggested for changes in the norms pertaining to the identification of senior managing officials of FPIs and for beneficial owners of listed entities.

What are the current regulations for NRI and PIOs investment in India?

  • NRIs are currently allowed to invest in Indian markets directly and indirectly through multiple routes.
  • NRIs and persons of Indian origin (PIOs) are allowed to invest directly in Indian companies under the Portfolio Investment Scheme (PIS).
  • They can also purchase mutual fund units, invest in private equity funds and use the offshore FPI route.
  • Besides, NRIs and PIOs are allowed to invest in debentures of Indian companies and government securities.

Advantages of the new norms

  • This move will bring a uniform regime for all the Portfolio investors.
  • It will SEBI to regulate NRI investments in India. There is no reporting and monitoring for NRIs, but this proposal will now bring then under SEBI surveillance.
  • Relaxing the broad-based criteria will open up the FPI route to a whole new category of entities.
  • it would rationalize the framework for issuance of participatory notes (P-notes).

What are Participatory Notes?

  • These are also referred to as P- Notes.
  • These are financial instruments required by investors to invest in Indian securities without having to register with the SEBI.
  • It is considered among the Offshore Derivative Instruments.
  • Foreign Institutional Investors issue the financial instruments to investors in other countries who want to invest in Indian securities.
  • An FII is an investor registered in a country outside of the one in which it is investing. Therefore, all FIIs should be registered with SEBI in India to issue P-Notes.
  • They provide access to quick money to the Indian capital market.
  • Due to its short-term nature of investing, regulators have fewer guidelines for foreign institutional investors.
  • Participatory notes are popular investment due to the investor remaining anonymous.

Key facts

  • The easing of FPI norms comes at a time when overseas investors have pulled out over $3 billion from the domestic markets since the Union Budget.
  • All the new rules will apply equally to those investors using the offshore derivative instruments (popularly known as P-Notes or Participatory Notes).
  • The proposed move was aimed at checking any possible re-routing of funds through overseas locations such as Mauritius, Singapore and Dubai.

Conclusion

  • This is the much-needed boost to the FPI in India, which had been languishing on account of multiple issues in the past few months.

 

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