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Foreign investors, hedge funds may get FII tag

The government and securities market regulator Sebi have agreed to allow foreign individuals, corporates and other investors such as hedge funds to register directly as foreign institutional investors — a move designed to increase transparency and reduce transaction costs for these investors.

The proposal, which has already been discussed at the regulator’s board meetings, is set to be formalised at a meeting next month, said a senior official engaged in the discussions. By facilitating the entry into local markets without the need to lean on well-entrenched large foreign broking firms registered with Sebi, policy makers hope to see a waning of participatory notes (P Notes).

P Notes are derivative instruments issued by FIIs here to overseas investors who may not be eligible to invest directly. They offer underlying Indian stocks, with the holder of the instrument entitled to benefits such as dividends and capital appreciation.

A substantial portion of portfolio inflows into the country have been through the P-Note route. While some overseas investors prefer to use this route to hide their identities, many have taken recourse to this due to hurdles in obtaining registration as FIIs here. To invest in Indian stocks, they have to go in for a P-Note structure — for which the transaction costs are higher.

For investors not registered here, the brokerage commission could be as high as close to 100 basis points, which is double the amount paid by a newly-registered foreign portfolio investor. The proposed opening up will not imply any dilution in terms of adhering to Know Your Customer norms, said an official.

Issues such as regulatory oversight of the new entities to be registered in their home countries and track record will be taken into account.

The regulator will also seek to tighten the norms for FII sub-accounts, putting the onus on FIIs for violations relating to such accounts. In the past, FIIs had managed to wriggle out when confronted with evidence of transgressions.

Policy makers, and even some fund managers here, believe that some of the leading FIIs operating in India have a vested interest in ensuring that P Notes are not phased out. This is because of the substantial income they earn out of issuing such derivative instruments.

But the government and Sebi are convinced that the way forward is to widen investor participation instead of erecting high walls which can be breached. However, the only dissenting note could be from the Reserve Bank of India, which has made it clear it does not favour further liberalisation, given the challenges in managing capital flows.
Source: Economic Times

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