Imagine sipping your favorite drink somewhere in Europe while your money works for you in India. The Indian stock market has grown tremendously over time. In fact, Bloomberg noted a 270% rally in the Bombay Stock Exchange (BSE), designating it as a leading stock performer.
In this guide, we’ll walk you through the meaning of foreign portfolio investment (FPI), its benefits, eligibility criteria, risks, and how to invest.
What is Foreign Portfolio Investment (FPI)?
Foreign portfolio investment (FPI) includes cross-border securities such as stocks, bonds, and derivatives held by investors in a different country. For example, a foreign investor interested in India’s publicly traded securities can invest through FPI. Although FPI is highly liquid and offers quicker returns on investment, the investor has no direct control over the investments.
Who is Eligible for Making Foreign Portfolio Investments?
To qualify for making foreign portfolio investments, an investor should meet the following criteria:
- Should not be a resident of India under the Income-tax Act of 1961.
- Should not be a Non-Resident Indian (NRI), which refers to Indian nationals residing abroad indefinitely.
- Must be a resident of a country whose securities regulatory body is a signatory to IOSCO’s multilateral memorandum or a bilateral memorandum with SEBI.
- Should reside in a nation categorized by the FATF as:
- Having strategic Anti-Money Laundering measures or one dealing with terrorism financiers subject to counter-measures.
- Failing to make adequate advancements in addressing identified deficiencies or showing no commitment to developing a plan with FATF to address them.
- Should be legally allowed to invest in cross-border securities beyond their country.
- If the investor is a bank, its resident central bank must be a member of the Bank for International Settlements (BIS).
- If a corporation or trust, it must be expressly permitted by its memorandum or articles of association.
- Should be financially sound, sufficiently experienced, professionally suitable, and display integrity and fairness.
- Should meet the Schedule II SEBI 2008 criteria.
How Are Foreign Portfolio Investments Categorized?
FPIs are categorized based on the mode of registration. Here are the three categories:
- Category I: Comprises government or related investors, such as central banks, governments, multilateral agencies, and international organizations.
- Category II: Includes broad-based funds like insurance and mutual funds, regulated persons like portfolio managers, and unregulated broad-based funds with regulated investment managers.
- Category III: Covers entities not included in Categories I and II, such as individuals, charitable societies, family offices, corporate bodies, and foundations.
Key Benefits of Foreign Portfolio Investments
- Portfolio diversification: FPI allows investors to diversify their portfolios and spread risk in international securities markets. This reduces their dependence on the domestic market and broadens their risk-adjusted returns. For example, if you have invested in U.S. stocks but want to add Asian equities to your portfolio, this helps buffer your investments against U.S. market downturns.
- Higher liquidity: Since most foreign portfolio investments are highly liquid, investors can easily sell them to generate quick cash. Likewise, they can take advantage of buying opportunities as they arise.
- Access to new investment markets: FPI opens investment opportunities in markets lacking in an investor’s home country. For instance, a Scandinavian investor focused on renewable energy may want to tap into manufacturing securities in Southeast Asia, particularly India. FPI makes this possible.
- Higher return prospects: Investing in new frontiers can lead to increased returns. For example, India’s rapidly growing economy offers investors higher potential for aggressive returns. Foreign investors who invested in India’s financial growth sector via FPI have often seen significant gains compared to their domestic markets.
- Exchange rate benefit: FPI allows investors to hedge against their home country’s currency depreciation. If an investor’s home currency becomes unstable, they can leverage FPI returns from more stable currencies, such as the Indian Rupee, to mitigate losses.
Foreign Portfolio Investment Risks
- Currency volatility: When investing, you buy securities in a foreign country’s currency at the prevailing exchange rate. Depending on how your home currency moves after the sale, this could impact your returns positively or negatively.
- Liquidity risk: This refers to the difficulty in selling your investments promptly without significant losses, often due to economic or political instability. As a foreign investor, it’s difficult to completely shield yourself from liquidity risks.
- Increased transaction costs: Depending on your choice of foreign market, transaction costs may be minimal or significant. You may incur fees such as brokerage fees, transaction taxes, exchange fees, depository charges, and exit loads. Additionally, if you hire a fund manager, fees will multiply.
Here’s an example of typical transaction costs for investing in India:
How to Venture into Foreign Portfolio Investment
- Designate a legal representative to help you obtain an FPI license as per SEBI regulations.
- Choose a tax advisor to assist with record maintenance, fund repatriation, annual tax compilation, and tax representation.
- Designate a domestic partner or custodian like Findoc to help you open a demat account and manage other custodial services.
Key Takeaways on Foreign Portfolio Investments (FPI)
Foreign portfolio investment allows you to diversify your portfolio and take advantage of international markets. To enter this space, it’s important to understand the regulatory framework and select the right investment vehicles cautiously.
Findoc is here to guide you through the entire foreign portfolio investment process hassle-free. Let’s get started with our FPI broking and execution services.
Article originally published at: https://www.findoc.com/blog/a-comprehensive-guide-to-foreign-portfolio-investment
