What is foreign portfolio investment?
Foreign [popup_anything id=”3852″] (FPI) is the entry of funds into a country where foreigners deposit money in a country’s bank or make purchases in the country’s stock and bond markets.
Most foreign portfolio investments consist of securities and other foreign financial assets that are passively held by the foreign investor. This does not provide the foreign investor with direct ownership of the financial assets and can be relatively liquid depending on the volatility of the market that the investment takes place in. This type of investment is a way for investors to diversify their portfolio with an international advantage.
Foreign portfolio investment shows up in a country’s capital account. It is also part of the balance of payments (BOP). The BOP measures the amount of money flowing from one country to other countries over one monetary year. It includes the country’s capital investments, monetary transfers, and the number of exports and imports of goods and services.
Difference between Foreign Portfolio Investment and Foreign Direct Investment:
Foreign portfolio investment is similar, but differs from foreign direct investment. In foreign portfolio investment the investor purchases stocks, securities and other financial assets but does not actively manage the investments or the companies that are issuing the assets. So, in FPI the investor does not have direct control over the securities or businesses. This means that FPI tends to be more liquid and less risky than FDI. The relatively high liquidity of FPI’s makes them much easier to sell than FDI’s. Although FDI allows a company to maintain better control over the firm held abroad, it may face more difficulty selling the firm at a premium price in the future. FPI is more liquid and less risky than FDI.
Foreign portfolio investments also tend to have a shorter time frame for returns than foreign direct investments.
What are the benefits for the Foreign Portfolio Investors?
- Portfolio Diversification – FPI gives investors a fairly simple way to diversify their portfolio internationally and thus allows them to reduce risks by giving them a chance to spread their investments.
- International Credit: FPI gives investors a larger credit base because they are able to access credit in the foreign countries that they have large amounts of investment in.
- Benefits from the Exchange rates: If an investor has an FPI in a foreign country with a stronger currency than their own country the difference in exchange rates between the two countries can benefit the investor.
- Access to a larger market: Often markets may be larger and less competitive outside of one’s home country. For example, the market is much more competitive in the United States of America than in other less developed economies. Investors can take advantage of the less competitive markets internationally by using these Foreign portfolio investments.
Recent performance of FPI in India
(FPIs) made a net withdrawal of about Rs 83,146 crore from the Indian markets in 2018 after pouring in a record Rs 2 lakh crore in the preceding year, on the back of rate hikes in the US, rise in global crude prices and rupee depreciation.
Recent trends of factors affecting FPI in India:
- Economic Slowdown in advanced economies – As advanced economies slow down (e.g. US growth is expected to settle down to 2.5 per cent in 2019) and markets in developed economies correct, portfolio investors will increase allocations to emerging markets like India.
- Monetary tightening – Ongoing monetary tightening by global central banks (like in USA and Europe) is shrinking the global pool of investable surplus. Thus this may be a concern for India.
- Unpredictable rupee – Dependence on import of oil and global trade wars will adversely affect the Indian rupee and thus FPIs may be erratic in India.
- Brexit – If the UK exits the European Union without a deal, it is likely to adversely impact India as well as the foreign companies operating out of the UK.
- Other concerns – Slowing corporate earnings growth, concerns over bad asset quality in banks, slowdown of credit flow to NBFCs and uncertainty over outcome of general elections in 2019 will impact the FPI inflows.
India must protect the economy from the risk of heightened portfolio outflows by increasing the participation of domestic investors and reducing dependence on foreign investors in the equity market. Increasing domestic participation in bond markets is another area that needs more attention.
Categories: POINT IAS