What is Foreign Portfolio Investment (FPI) in India?

Ankita Tiwari

07 Apr, 2023

Foreign Portfolio Investment (FPI) means investment in foreign financial assets like fixed deposits, stocks, mutual funds, etc. The investors who invest in FPIs are known as foreign portfolio investors. Foreign Portfolio Investors passively hold their investments. The main purpose of foreign portfolio investors is to get a speculative profit without gaining control of a company and to diversify the portfolio and receive a high return for the risks borne by foreign portfolio investors. Foreign Portfolio Investment (FPIs) give investors the freedom to diversify in the international market and obtain the benefit of differences in exchange rates by allowing an investor from an economically challenged country to invest in an economically developed or developing countries having stronger currencies thereby ensuring high returns.

FPIs in India are majorly regulated by SEBI under the SEBI (Foreign Portfolio Investors) Regulations, 2019. They also need to follow the Income Tax Act of 1961 and the Foreign Exchange Management Act of 1999^[1].  FPIs should be less than 10% of the paid-up share capital of the Indian company. Once it goes beyond the 10% paid-up share capital mark it is considered an FDI. If thereafter the investment falls below the 10% mark, it will still be considered an FDI. In present times, FPIs along with FDIs form the form prominent portion of foreign investments in India. Individuals, Businesses, and even Governments have started to invest in Foreign Portfolio Investments (FPIs). Hence, in this blog, we discuss the FPIs in India, their categories, benefits and associated risks.

Categories of FPIs in India

The SEBI (Foreign Portfolio Investors) Regulations, 2019 specifies three categories of FPIs in India. Every foreign portfolio investor intending to make FPIs in India should get himself registered under any of the three categories. The following are the three categories of FPIs in India:

• Category I
  Under this category, generally, government-backed investment institutions are registered. They include foreign government and foreign government-related investors such as central banks, Sovereign wealth funds, International or multilateral organizations, pension funds, etc. Since they are government-backed investments the risk involved is less.
• Category II
  The investors who neither fall under Category I nor Category III are covered under this category. Usually, big investors such as Mutual Funds, bank deposits, portfolio managers, insurance policies, investment managers, etc are registered under this category. The risk involved under this category of FPI ranges from low to moderate.
• Category III
  Investments that are not covered in the above two categories are covered under this category. Some examples of investors who fall under this category are individual investors, societies, trusts, companies, charitable foundations, etc. Investment under this category is made by small foreign investors. The level of risk involved ranges from moderate to high.

Eligibility Criteria for FPIs in India

In order to register as a Foreign Portfolio Investor the following conditions should be satisfied namely:

• The applicant should be a non-resident of India;
• The applicant should not be a non-resident Indian (NRI) or an Overseas Citizen of India (OCI) However, Resident Indians (RI), NRIs, and OCIs may still be eligible to register as a foreign portfolio investor if the contribution in case of single NRI or OCI or RI is below 25% of the total contribution in the corpus of the applicant and in other cases the aggregate contribution of NRIs, OCIs and RIs the contribution is below 50% of the total contribution in the corpus of the applicant;
• The applicant should be a resident of a country whose securities market regulator is a signatory of the International Organization of Securities Commission’s (IOSC) Multilateral MOU or a signatory to a bilateral MOU with SEBI. Further, the residents of that country should be allowed by the Government of that country to invest in foreign countries;
•  If the applicant is a foreign banker then the Central bank of the applicant’s resident country should be a member of the Bank for International Settlements;
• The applicant should not be a resident of a country identified under the public statement of the Financial Action Task Force of that country to have deficiencies in its Anti-Money Laundering laws or a country that has not made sufficient progress in addressing such deficiencies.
• The applicant should be fit and proper;
• The applicant must satisfy any other criteria as may be prescribed by SEBI from time to time.

Factors Affecting FPIs in India

1. Growth Prospects
   Robust and growing economies make foreign investors inclined towards investing in the financial assets of that economy. Likewise, investors withdraw their investments from countries facing financial turmoil. Indian is one the fastest growing economies in the world making it a favorite place for FPIs in India.
2. Interest Rates
   Foreign Investments like FPIs are made by investors to earn high returns on their investments therefore, investors prefer to invest in countries that have high-interest rates.
3. Tax Rates
   Tax is levied on the capital gains which result from the investment. Higher tax rates reduce the return on investments therefore, investors prefer to invest in countries having lower tax rates.

Benefits of FPI in India

1. Diversity in Investment
   With FPIs, investors can diversify their portfolios and get higher returns. An investor can also reduce the volatility of investment by investing in different countries. So if the investor incurs a loss in one country and accrues profits in another country, the profit from one country can be used to set off the loss in another country thereby increasing the chances of profits.
2. International Credit
   By way of FPIs, investors can have access to the increased amount of credit in foreign countries and broaden their credit base. Having international credit allows foreign portfolio investors to utilize more leverage and avail higher returns on equity investment.
3. Access to an International Market
   FPIs give investors exposure to an international market. Different markets may offer different returns and greater diversity. The investor may explore the different markets as per his investment objective. Further, making FPIs in developing economies like India will allow the investor to get higher returns due to the growth potential and lesser saturation of the market. FPIs also infuse significant capital into a country at a low expense.
4. High Liquidity
   An investor can quickly and seamlessly buy and sell foreign portfolios. In this way, FPIs provide high liquidity to investors.
5. Exchange Rate Benefit
   The investor can avail the benefits of fluctuating nature of the international currencies. In case of a rise or fall in the value of currencies, the stronger currency can be used by the investor to get a benefit.

Risks involve in FPIs in India

1. Unpredictable nature
   FPIs are unpredictable as there is a constant shift between the markets in short periods. This gives rise to volatility and an unexpected withdrawal of FPI will have a huge impact on the exchange rate.
2. Risk of Political Exposure
   The risk in FPIs also depends upon the political environment of a country. The result of a change in the political environment can result in a change in laws, rules and regulations pertaining to FPIs in India.  

FPI vs FDI

Often FPI and FDI are confused to alike as both are forms of foreign investments. Both form major source of foreign investment across the globe. However, they are a lot unlike than they are alike. FPIs are securities and other financial assets passively held by a foreign investor in a country. FDI is the investment made by a foreign company or a foreign individual into the business interests located in another country. A major difference between FPI and FDI is the degree of control that a foreign investor has over his investments. Under Foreign Portfolio Investment (FPI) the investor has passive ownership therefore, the degree of control is low whereas in FDI the investments are made directly by the investor so the degree of control is high. Another important difference between FPI and FDI is that in FPIs the investment is made in the financial assets of a company whereas in FDI the investment is made in physical assets of the company. As FPIs directly affect the financial market by facilitating capital inflow in a country, the risk involved is volatile. However, FDI not just leads to the inflow of capital but also technology, knowledge and other resources from the foreign country therefore, risk involved is low.

Conclusion

As the Indian economy is the fastest growing economy, FPIs in India serve as a lucrative option for foreign investors. Foreign Portfolio investments (FPIs) are a great investment mechanism for entry into the Indian market. Further, FPIs in India will be beneficial not the investor but also for the growth of the Indian economy. The higher the FPIs, the higher will be the stock market efficiency and the higher will be the economic growth.

Also Read: How Foreign Portfolio Investors can Invest in India?