You are on page 1of 74

A

PROJECT REPORT
ON
“ROLE AND IMPACT OF FII’s ON INDIAN CAPITAL MARKET”

SUBMITTED BY
FARHAN KHAN
(BACHELORS OF COMMERCE (FINANCIAL MARKETS),SEM -V)

ROLL NO:16
BATCH: 2016-2017
Under the guidance of
PROF. PRASANNA CHOUDHARI

SUBMITTED TO
UNIVERSITY OF MUMBAI
RAJASTHANI SAMMELAN’S
Ghanshyamdas Saraf College
Of Arts and Commerce
Affiliated to University of Mumbai
Reaccredited by NAAC with `A` Grade

ACKNOWLEDGEMENT
I take this opportunity to thank The University of Mumbai for giving me a chance to do this
project
I express my deepest thanks to my mentor, Prof. Prasanna Choudhari for his precious advice that
helped in selecting my study site in the initial but the most crucial stage of my project. His
constructive comments and feedback have been very useful towards the completion of my
project. I am greatly indebted to for his invaluable advices on the quantitative research part of
my project. I would like to thank him for bearing with me very patiently in the process. I also
express my thanks to my friends and colleagues for their continuous help and support.
Finally, I thank my parents and all my close relatives who encouraged and supported my
decision to work on this project and dedicate this to them without their support and
encouragement this could have never been realized.

(FARHAN HASAN KHAN)

CERTIFICATE
I Prof. PRASANNA CHOUDHARI hereby certify that FARHAN KHAN a student of
Ghanshyamdas Saraf College Of Arts & Commerce, (Bachelors of Commerce (Financial
Market), Sem -V) has completed project on ROLE OF FII’S IN INDIAN CAPITAL MARKET in the
academic year 2016-2017.
Thus information submitted is true and original to the best of my knowledge.

Project Guide:

Principal:

Date:

External Examiner:

College Seal:

Malad (W) (BACHELORS OF COMMERCE (Financial Market). Sem –V) hereby declare that I have completed project on Role And Impact of FII’S On Indian Economy in the academic year 20162017. Date: Signature of student: . This information submitted is true and original to the best of my knowledge.DECLARATION I FARHAN KHAN a student of Ghanshyamdas Saraf College Of Arts & Commerce.

It can be said that we can encourage FII inflows into India through appropriate regulation of PNs and sub-accounts and invent a series of check and balances system so as to protect the economy and look over the fact that the economy works best with such kind of filters system. This is followed by the role of FIIs in the Indian stock market. This event represents a landmark event since it resulted in effectively globalizing its financial services industry. trends in FII flows and FII activities up to March 2012 are considered. the introduction about the Indian economy and FIIs is given followed by the conceptual framework. . Along with this the purpose of study is to find out the impact of FII inflows on Indian stock market. As per the study done it is found out that the trading behavior of FII do not have a destabilizing impact on the equity market. First. guidelines. The foreign institutional investors (FIIs) have emerged as important players in the Indian equity market in the recent past. This study makes an attempt to develop an understanding of the dynamics of the trading behavior of FIIs.EXECUTIVE SUMMARY Since the beginning of liberalization FII flows to India have steadily grown in importance. Thus. India opened her doors to Foreign Institutional Investors in September 1992. do we need FII inflows? Do FII play an important role in Indian equity market? And at last should we encourage FII inflows? For this monthly. investing limits in Indian companies is observed. yearly data of FII inflow is taken into consideration. As a part of its initiative to liberalize its financial markets. it can be said that FII do play an important role in Indian equity market. Second.

2: Data Collection Techniques and Tools 3.4: Research Analysis Tools 3.5 :Analysis and Interpretation Chapter 4: Future Prospects 4.3: Sample Design 3.2: Foreign Institutional Investments(FIIs) 2.10: FII activity in India from 1992-2006 2.7: Eligibility criteria for entering as an FII in India 2.12: FII activity in India 2010-2011(present scenario) 2.6: Investment Limits 2.1: Indian Capital Market : An overview 2.5: Introduction of FIIs in India 2.3: Scope and Limitations 1.3: Foreign Institutional Investors 2.8: FIIs and their impact on Indian stock exchanges 2.13: FII activity in 2012 in India Chapter 3: Research Methodology 3.1: Reasons why FII will keep pumping in Indian Market 4.2: Type of Research 1.4: Background of FIIs 2.4: Literature Review Chapter 2: Introduction to Topic 2.11: FII activity in India from 2006-2010 2.1: Objective of the Study 1.Table of Contents PARTICULARS Acknowledgement Certificates Executive Summary Table of Contents Chapter 1: Introduction of the Project 1.1: Research Design 3.S ratings downgraded Chapter 5: Conclusions and Suggestions Bibliography PAGE NO: (i) (ii) (iii) (iv) 1 1 1 2 4 5 7 8 9 12 15 22 23 27 32 37 47 51 51 52 52 54 56 64 65 67 .2: U.9: FIIs and their impact on Indian economy (Positive and Negative effects) 2.

.

It will also describe the market trends due to FIIs inflow and outflow.CHAPTER 1 : INRODUCTION TO THE PROJECT Objective: ∑ FII inflow and outflow trends in Indian Capital Markets during the post liberalization period that is 1991 to 2012 ∑ Influence of FII inflow and outflow trends on Indian Capital Markets ∑ To study the importance of FII on Indian economy as a whole Type of Research Exploratory Research method applied for the study.In the study only FII equity investment and sales were considered. it would be beneficial to gain knowledge regarding foreign institutional investments. But. The data on daily basis can give more positive results. interest rate prevailing in the market. Whenever FII find any trouble they withdraw their investments. The study will provide a very clear picture of the impact of foreign institutional investors on Indian stock indices. Rationale and Scope of the Study and Limitations Foreign Institutional Investors are said to be the driver of the market. their process of registration and their impact on Indian stock market. Other economic variables of macro and micro environment such as foreign exchange rate. As an exploratory study is conducted with an objective to gain familiarity with the phenomenon or to achieve new insight into it. Inclusion of these factors can provide more accurate insight to the findings of the present study 1 . government policies related to specific sectors etc. Those are the one cause behind the rise and fall of Sensex and Nifty. The study would be helpful for further descriptive studies and moreover. political factors. The companies in which they invest are getting overvalued. The time period is from liberalization year 1992 to March 2012 as it will give exact impact in both the bullish and bearish trend. which can affect the performance of Indian capital market and FII inflow to the Indian capital market were not considered. this study aims to find the new insights in terms of finding the relationship between FII'S and Indian Stock Markets. speculative trading. study is only going to cover foreign investments in form of equity. Scope of the study is very broader and covers Capital Market Indices and its comparison with foreign institutional investments. FII investment trends tell us about many effects that the Indian market is experiencing.

but the speed is often held hostage by coalition politics and vested interests. Simultaneously. permitted portfolio investments from abroad by foreign institutional investors in the Indian capital market. In India. In return for an IMF bailout. Controls started to be dismantled.” As a part of the reforms process. Narsimham Rao was made which sought for reforms in the financial sector. private sector enterprise and competition were encouraged and globalization was slowly embraced. such as pension funds. Now days. duties and taxes progressively lowered. the committee on “the reforms of the financial system” under the chairmanship of Mr M. augmentation of foreign exchange reserves and globalization of the Indian economy. the purchase of domestic securities by FIIs was first allowed in September 1992 as part of the liberalization process that followed the balance of payment crisis in 1990-91. the economy was opened to trade and investment. The committee only suggested that the capital market should be gradually opened up to foreign portfolio investments. 1992 with suitable restrictions. The Indian market was integrated with the world economy and international investors were invited to participate in India. FIIs were permitted to invest in all the securities traded on the primary and secondary markets. however did not elaborate on the objectives of the suggested policy. including shares. a significant portion of Indian corporate sector's securities are held by Foreign Institutional Investors. the Government. These investors are often viewed as sophisticated investors as these institutional investors are better informed and better equipped to process information than individual investors 2 . The entry of FIIs seems to be a follow up of the recommendation of the Narsimhan Committee Report on Financial System. Consequently. the Committee. That low point was the catalyst required to transform the economy through badly needed reforms to unshackle the economy. debentures and warrants issued by companies which were listed or were to be listed on the Stock Exchanges in India. The reforms process continues today and is accepted by all political parties. state monopolies broken.Literature Review According to India Report. While recommending their entry. the Government under its New Industrial Policy revamped its foreign investment policy recognizing the growing importance of foreign direct investment as an instrument of technology transfer. Astaire Research “A Balance of Payments crisis in 1991 pushed the country to near bankruptcy. mutual funds and insurance companies. gold was transferred to London as collateral. tariffs. From September 14. the rupee devalued and economic reforms were forced upon India. for the first time.

In this project the researcher has studied about the idea. The researcher has studied and analysed FII flows and examined if the overall experience has been stabilizing or destabilizing for the Indian capital market. does the opening up of the market for FII increase speculation in the market and thus make the market more volatile and more vulnerable to foreign shocks The Impact of FII in equity investment behavior in stock Market is studied in this project and it’s relative performance of Indian stock market. for example. Apart from net investment of FII's the purchase and sale behavior of FIIs were also analyzed in the study. 3 . that financial liberalization increases the efficiency of financial market and permission of FIIs equity investment are an important example of financial liberalization.The impact study of FIIs flows on domestic stock market is important from government as well as investor point of view.

when twenty-two agents started the Bombay Stock Exchange (BSE). One of SEBI’s main activities is to protect the business finance interests of investors. If the money of the savers is put in financial securities. NSE’s objectives are to provide for speedy transactions. Transparency is a buzzword in the Indian business finance scene. and the spenders are companies and the government. Indian markets have evolved continuously. SEBI is instrumental in attracting investments. The savers are normal households. reviewing the business finance model and looking into the other affairs of the company are given to the government. due to the safe nature in the Indian business finance scene. and so on. It also encouraged small investors. The Securities Contracts (Regulation) Act of 1956 and the Securities and Exchange Board of India (SEBI) Act of 1992. That was way back in 1875. the Indian security market can be grouped into the savers and the spenders.1 Indian Capital Markets: An Overview It all started in India. In 1994. the Indian financial market is a beacon of the economy. At a broad level.are the other body of rules that govern the Indian capital markets. and in turn the savers get interest or dividend to enjoy. It looks into various other things like eligibility criteria for registration. and conformity to rules and regulations. the central government and the company law board abide by the companies act of 1956. 4 . Hence the security market is where the companies meet the savers. developing the code of conduct. by providing the facilities to safeguard their wealth. the National Stock Exchange (NSE) was commenced. Control of stocks. Investigators from the directorate of investigation do the audits. The Indian stock market is probably the oldest in Asia. contracts and a variety of other things are dealt by the former act. Characterized by operational excellence. then spenders get money to operate. listings. From then on. SEBI is concerned with the growth of the securities and business finance market in India. Having the powers to regulate companies. In many ways. The Company Act of 1956 governs the securities market in India.CHAPTER 2: INTRODUCTION TO THE TOPIC 2. Powers such as auditing of accounting information.

instruments.2 Foreign Institutional Investments (FIIs) In present era of globalization no country or economy has been left untouched from international trade and commerce. today most of the market entities are interested in attracting foreign capital as it not only helps in creating liquidity for the firms stock and the stock market but also leads to lowering of the cost of the capital for the firms and allows them to compete more effectively in the global market place. The capital market has two interdependent segments : the primary market and the secondary market. etc. etc. allowing foreign investors to come to India. The recent massive structural reforms on the economic and industry front in the form of de-licensing rupee convertibility. tapping of foreign funds. There are two major types of issuers of securities. that the Indian capital market has undergone a metamorphosis in terms of institutions. More access to international capital markets and foreign investments has helped developing countries surmount their less developed capital markets. During last 20 years or so. Over the years same scenario has been witnessed in the Indian economy also. And thus. the resources are mobilized either through the public issue or through private placement route. During the past few years. the corporate entities who issue mainly debt and equity instruments and the Government (Central as well as State) who issue debt securities.The changes in economic scenario(after the liberalization) and the economic growth have raised the interest of Indian as well as Foreign Institutional Investors(FII’s) in the Indian capital market. growing awareness globalisation of the capital market. The primary market is the channel for creation of new securities. the Indian capital market has witnessed growth in volume of funds raised as well as of. The capital market in India is rightly termed as an emerging and promising capital market. whereas if the issue is made available to a selected group of persons it is termed as private placement. Several financial institutions. on one hand. 2. a flow of capital has been seen from the developed part of the world to the less developed economies which has led to decrease in the vulnerability of developing countries to financial crisis by reduction in their external debt burden from 39% of gross national income in 1995 to 26% in 2006 and increase in foreign exchange reserves to 92% of long term debt and 423% of more volatile short term debt in 2006. have resulted. The buoyancy in the capital market has appeared as a result of increasing industrialisation. It is a public issue if anybody and everybody can subscribe for it. in the quantum leap in activities/volume in the Indian capital market. These securities are issued by public limited companies or by government agencies’ In the primary market. and on the other hand and more importantly. The secondary market enables participants who hold securities to adjust their holdings in response to changes in their assessment of risks and returns. 5 . These new securities issued in the primary market are traded in the secondary market. financial instruments and financial services have emerged as a result of economic liberalisation policy of the Government of India.

Foreign Investment It has been defined as “a transfer of funds or materials from one country (called capital exporting country) to another country (called host country) in return for a direct or indirect participation in the earnings of that enterprise. a private equity investment is one made by foreign investors in Indian Venture Capital Undertakings (VCU) and Venture Capital Funds (VCF). Thirdly. Basically foreign investment can be made through following routes: ∑ ∑ ∑ Foreign Direct Investment (FDI) Foreign Portfolio Investment (FPI). a foreign portfolio investment is a short-term to medium.term investment mostly in the financial markets and is commonly made through foreign Institutional Investors (FIIs). foreign direct investment pertains to international investment in which the investor obtains a lasting interest in an enterprise in another country. these have grown in leaps and bounds. Mostly it takes the form of buying or constructing a factory in a foreign country or adding improvements to such a facility in form of property. 6 . Private Equity investments-Foreign venture capital investor(FVCI) Firstly.” Foreign investments provide a channel through which one can have access to foreign capital and after the opening up of the Indian economy. plants or equipments and thus is generally long term in nature. On the other hand. non resident Indian (NRI) and persons of Indian origin (PIO).

According to Securities and Exchange Board of India (SEBI) it is “an institution that is a legal entity established or incorporated outside India proposing to make investments in India only in securities”. Some of the big American mutual funds are fidelity. These can invest their own funds or invest funds on behalf of their overseas clients registered with SEBI. FIIs contribute to the foreign exchange inflow as the funds from multilateral finance institutions and FDI are insufficient. 2011 Basically FIIs have a huge financial strength and invest for the purpose of income and capital appreciation. vanguard.686 sub-accounts registered with SEBI as on March 31. mostly in the form of an institution or entity which invests money in the financial markets of a country different from the one where in the institution or the entity is originally incorporated. Merrill lynch. As on March 31. there were 1. listed equity shares. These also include domestic asset management companies or domestic portfolio managers who manage funds raised or collected or bought from outside India for the purpose of making investment in India on behalf of foreign corporate or foreign individuals. capital research etc. 2011. It leads to higher asset prices in the Indian market. And has also led to considerable amount of reforms in capital market and financial sector. In the Indian context. India has developed a framework through which foreign investors participate in the Indian capital market. They are no interested in taking control of a company. The client accounts are known as ‘sub-accounts’. From the early 1990s. 7 . A foreign investor can either come into India as a FII or as a sub-account.3 FOREIGN INSTITUTIONAL INVESTORS The term ‘FII’ is used to denote an investor. listed non convertible debentures/bonds issued by Indian company and schemes of mutual funds but the sale should be only through recognized stock exchange. foreign institutional investors (FIIs) and their sub-accounts mostly use these instruments for facilitating the participation of their overseas clients. access to cheap global credit.722 FIIs registered with SEBI and 5. ∑ ∑ ∑ ∑ It lowers cost of capital. They are permitted to trade in securities in primary as well as secondary markets and can trade also in dated government securities. A domestic portfolio manager can also register as FII to manage the funds of the sub-accounts.2. It supplements domestic savings and investments. who are not interested in participating directly in the Indian stock market.

According to India Report. Consequently. As a result of this. the economy was opened to trade and investment.0% of GDP in 1980-81 to 10. Since these deficits had to be met by borrowings. Current account deficits were financed largely through debt flows and official development assistance.2 bn which could barely finance 3 weeks’ worth of imports. the internal debt of the government accumulated rapidly.4 percent in 1985-86 and to 12. duties and taxes progressively lowered. Narsimham Rao was made which sought for reforms in the financial sector. trading mechanism and introduction of new financial instruments made it a center of attraction for the international investors. gold was transferred to London as collateral.7% in 1990-91.2. the committee on “the reforms of the financial system” under the chairmanship of Mr M. The gross fiscal deficit of the government rose from 9. state monopolies broken. India’s development strategy was focused on self-reliance and Importsubstitution. The reforms process continues today and is accepted by all political parties. Astaire Research “A Balance of Payments crisis in 1991 pushed the country to near bankruptcy. Improved market surveillance system.” Thus it was decided to open up the economy. Until the 1980s. That low point was the catalyst required to transform the economy through badly needed reforms to unshackle the economy. At that time Indian foreign exchange stood at mere US $1.4 BACKGROUND In the late 1980s India suffered an acute financial crunch. but the speed is often held hostage by coalition politics and vested interests. One of its recommendation included developing an active government securities market and strengthening the open market operations as an instrument of monetary policy. And India had to pledge its gold reserve with IMF to secure a loan of just US $457 mn. In return for an IMF bailout. private sector enterprise and competition were encouraged and globalization was slowly embraced. rising from 35% of GDP at the end of 1980-81 to 53% of GDP at the end of 1990-91. the rupee devalued and economic reforms were forced upon India. The Indian market was integrated with the world economy and international investors were invited to participate in India. Controls started to be dismantled. the economic policies were liberalized and private sector was given the freedom to participate in the Indian economy more effectively. tariffs. And thus this reform paved way for foreign investments which were at that time the need of the hour. There was a general disinclination towards foreign investment or private 8 . Indian stock market witnessed metamorphic changes and a transition-from a “dull” to a highly “buoyant” stock market.

. To operationalise this policy announcement. the Government. with a focus on harnessing the growing global foreign direct investment (FDI) and portfolio flows. gradual liberalisation of outflows. debentures and warrants issued by companies which were listed or were to be listed on the Stock Exchanges in India.commercial flows. India has also been consistently gaining prominence in various international forums. permitted portfolio investments from abroad by foreign institutional investors in the Indian capital market. 1992 with suitable restrictions. especially short-term debt. The committee only suggested that the capital market should be gradually opened up to foreign portfolio investments. the then Finance Minister Dr. From September 14. for the first time. to invest in Indian capital market. though we still have a long way to go. strict regulation of external commercial borrowings. it had become necessary to evolve guidelines for such investments by Foreign Institutional Investors (FIIs). especially that of capital markets. 2.5 Introduction to FII Since 1990-91. however did not elaborate on the objectives of the suggested policy. however. the Government under its New Industrial Policy revamped its foreign investment policy recognizing the growing importance of foreign direct investment as an instrument of technology transfer. 9 . Further. A major development in our country post 1991 has been liberalization of the financial sector. such as Pension Funds etc. discouraging volatile elements of flows from non-resident Indians (NRIs). Since the initiation of the reform process in the early 1990s. As a part of the reforms process. FIIs were permitted to invest in all the securities traded on the primary and secondary markets. While presenting the Budget for 1992-93. including shares. The entry of FIIs seems to be a follow up of the recommendation of the Narsimhan Committee Report on Financial System. India’s policy stance has changed substantially. Our country today has one of the most prominent and followed stock exchanges in the world. While recommending their entry. the Government of India embarked on liberalization and economic reforms with a view of bringing about rapid and substantial economic growth and move towards globalization of the economy. Rangarajan). augmentation of foreign exchange reserves and globalization of the Indian economy. the Committee. disintermediation of Government in the flow of external assistance. The broad approach to reform in the external sector after the Gulf crisis was delineated in the Report of the High Level Committee on Balance of Payments (Chairman: C. It recommended: ∑ ∑ ∑ ∑ ∑ a compositional shift in capital flows away from debt to non-debt creating flows. Manmohan Singh had announced a proposal to allow reputed foreign investors. Simultaneously.

2001. and of all FIIs.and ∑ to sectoral cap/statutory ceiling from September 20. in the application form the details of clients on whose behalf investments were being made were sought.2001. The Government guidelines for FII of 1992 allowed.With coming into force of the Foreign Exchange Management Act. funds invested by FIIs have to have at least 50 participants (changed to 20 investors in August. the intention of the guidelines was to allow these 10 . professional competence. The holding of a single FII. ∑ to 49 per cent from March 8. (FEMA). Furthermore.EVOLUTION OF FII POLICIES IN INDIA After the launch of the reforms in the early 1990s. such as track record. While granting registration to the FII. to ensure a broad base and prevent such investment acting as a camouflage for individual investment in the nature of FDI and requiring Government approval. this was allowed to be increased subject to passing of resolution by the Board of Directors of the company followed by passing of a special resolution by the General Body of the company. Hence. 1999) with no single participant holding more than 5 per cent (revised to 10 per cent in February. The ceiling limit under special procedure was enhanced in stages as follows: ∑ to 30 per cent from April 4. 1999 foreign exchange related transactions of FIIs were permitted by RBI. Right from 1992. From September 14. The policy framework for permitting FII investment was provided under the Government of India guidelines. there was a gradual shift towards capital account convertibility. debentures and warrants issued by companies which were listed or were to be listed on the Stock Exchanges in India and in schemes floated by domestic mutual funds. including registration with a regulatory organisation in the home country. 1997 ∑ to 40 per cent from March 1. NRIs and OCBs together in any company were initially subject to the limit of 5 per cent and 24 per cent of the company’s total issued capital. nominee companies and incorporated/institutional portfolio managers or their power of attorney holders (providing discretionary and non discretionary portfolio management services) to be registered as FIIs. respectively. The Government guidelines of 1992 also provided for eligibility conditions for registration. While the guidelines did not have a specific provision regarding clients. inter-alia. including shares. 2000). However. permission was also granted for making investments in the names of such clients. Asset management companies/portfolio managers are basically in the business of managing funds and investing them on behalf of their funds/clients. 1992. The guidelines were suitably incorporated under the SEBI (FIIs) Regulations. which enjoined upon FIIs to obtain an initial registration with SEBI and also RBI’s general permission under FERA. 1995. entities such as asset management companies. 2000. FIIs have been allowed to invest in all securities traded on the primary and secondary markets. financial soundness and other relevant criteria. FIIs and Overseas Corporate Bodies (OCBs) were permitted to invest in financial instruments. with suitable restrictions.

the definition of broad based funds was relaxed in August.75 billion in November.75 billion to US $2 billion and US $0.5 billion to US $1. investments were allowed only in debt securities of companies listed or to be listed in stock exchanges. who would be registered as FIIs in India. Treasury bills. was revised from US$1 billion to US$1. Moreover. recommended streamlining of SEBI registration procedure. including individuals. domestic portfolio managers were allowed in February. These ‘clients' later came to be known as sub-accounts. In 2003 this circular was further revised to include disclosure of more details about terms. 2000 to manage the funds of sub-accounts. they were allowed to invest in unlisted securities. so as to give endcustomers a greater choice about the identity of their fund manager in India. The broad strategy consisted of having a wide variety of clients. and suggested that dual approval process of SEBI and RBI be changed to a single approval process of SEBI. This recommendation was implemented in December 2003. In order to have a level playing field in intermediation. The overall cap on investments in Government securities. Under eligibility conditions. intermediated through institutional investors. From April 1998.categories of investors to invest funds in India on behalf of their ‘clients’. 2003. 1999 and in February. commercial paper and derivatives traded on a recognised stock exchange. 2001 to all FIIs and their custodians advising the FIIs to report as and when any derivative instruments with Indian underlying securities are issued/renewed/redeemed by them. rated government securities. respectively. A Working Group for Streamlining of the Procedures relating to FIIs. such as foreign firms were allowed to invest as subaccounts. any registered FII willing to make 100 per cent investment in debt securities were permitted to do so subject to specific approval from SEBI as a separate category of FIIs or sub-accounts as 100 per cent debt funds In order to increase transparency. 2004.5 billion for FII/Sub Account investments in Government securities and Corporate Debt. but were included subsequently from May. FII investments were also allowed in dated Government securities. were originally outside the ambit of such investments. inter alia. From November 1996. SEBI issued a circular on October 31. 1998. nature and contracting parties. both through the normal route and the 100 per cent debt fund route. 11 . either on their own account or on behalf of subaccounts registered under them. 2000 and newer entities. Gradually. FIIs were initially allowed to only invest in listed securities of companies. Investments were free from maturity limitations. being money market instruments.In April 2006 there was a rise in the cumulative debt investment limits from US $1. constituted in April.

Securities in the primary and secondary market including shares which are unlisted. C.2. Partly Convertible Debentures etc.) Bonds Dated government securities Treasury Bills Other Debt Market Instruments It should be noted that foreign companies and individuals are not be eligible to invest through the 100% debt route. (i) relaxation of investment limits for FIIs.e. Debentures (Non Convertible Debentures. E. D.70 (Equity Instruments): 30 (Debt Instruments) 100% Debt 100% investment has to be made in debt securities only Equity Investment route: In case of Equity route the FIIs can invest in the following instruments: A.6 Investments by FIIs A FII may invest through 2 routes: ∑ ∑ Equity Investment 100% investments could be in equity related instruments or upto 30% could be invested in debt instruments i. The evolution of FII policy in India has displayed a steady and cautious approach to liberalisation of a system of quantitative restrictions (QRs). listed or to be listed on a recognized stock exchange in India. (iii) liberalisation of investment instruments accessible for FIIs 12 . C. Units of schemes floated by the Unit Trust of India and other domestic mutual funds. (ii) relaxation of eligibility conditions. The policy liberalization has taken the form of. B. B. Warrants 100% Debt route: In case of Debt Route the FIIs can invest in the following instruments: A. whether listed or not.

and suggested that dual approval process of SEBI and RBI be changed to a single approval process of SEBI. 100 % debt-fund FIIs. investment trust. in the application form the details of clients on whose behalf investments were being made were sought. inter alia.Market design in India for foreign institutional investors Foreign Institutional Investors means an institution established or incorporated outside India which proposes to make investment in India in securities. institutional portfolio manager. inter-alia. A Working Group for Streamlining of the Procedures relating to Foriegn Institutional Investors. bank. The Government guidelines for FII of 1992 allowed. partnership firms. mutual funds. Currently. a trustee or power of attorney holder incorporated or established outside India proposing to make proprietary investments or with no single investor holding more than 10 per cent of the shares or units of the fund. 2003. public company. While granting registration to the FII.those who are required to invest not less than 70 % of their investment in equity-related instruments and 30 % in non-equity instruments. constituted in April. entities such as asset management companies. Asset management companies/portfolio managers are basically in the business of managing funds and investing them on behalf of their funds/clients. and individuals. private company. nominee company. university funds. charitable trusts. FIIs registered with SEBI fall under the following categories: ∑ ∑ Regular FIIs. endowments. pension fund. While the guidelines did not have a specific provision regarding clients. nominee companies and incorporated/institutional portfolio managers or their power of attorney holders (providing discretionary and non-discretionary portfolio management services) to be registered as Foreign Institutional Investors. investment trust.those who are permitted to invest only in debt instruments. Hence. As Sub-accounts: The sub account is generally the underlying fund on whose behalf the FII invests. recommended streamlining of SEBI registration procedure. viz. charitable societies. entities eligible to invest under the FII route are as follows: ∑ ∑ As FII: Overseas pension funds. the intention of the guidelines was to allow these categories of investors to invest funds in India on 13 . permission was also granted for making investments in the names of such clients. The following entities are eligible to be registered as sub-accounts. This recommendation was implemented in December 2003. foundations. asset management company.

Trading in Transferable Development Rights (TDRs).behalf of their ‘clients’. 14 . including individuals. They were allowed to invest in all the securities traded on the primary and the secondary market including the equity and other securities/instruments of companies listed/to be listed on stock exchanges in India. Thereafter. Trends of Foreign Institutional Investments in India. Prohibitions on Investments: Foreign Institutional Investors are not permitted to invest in equity issued by an Asset Reconstruction Company. roads or bridges). the Indian stock markets were opened up for direct participation by FIIs. The broad strategy consisted of having a wide variety of clients. An application for grant of registration has to be made in Form A. 1995. only Non-Resident Indians (NRIs) and Overseas Corporate Bodies were allowed to undertake portfolio investments in India. Before 1992.“no person shall buy. Foreign Institutional Investments and investments in offshore funds. intermediated through institutional investors. Procedure for Registration: The Procedure for registration of FII has been given by SEBI regulations. Portfolio investments in India include investments in American Depository Receipts (ADRs)/ Global Depository Receipts (GDRs). the format of which is provided in the SEBI (FII) Regulations. construction of residential/commercial premises. They are also not allowed to invest in any company which is engaged or proposes to engage in the following activities: ∑ ∑ ∑ ∑ ∑ Business of chit fund Nidhi Company Agricultural or plantation activities Real estate business or construction of farm houses (real estate business does not include development of townships. who would be registered as FIIs in India. These ‘clients’ later came to be known as sub-accounts. sell or otherwise deal in securities as a Foreign Institutional Investor unless he holds a certificate granted by the Board under these regulations”. It states. FIIs are eligible to purchase shares and convertible debentures issued by Indian companies under the Portfolio Investment Scheme.

or other such securities.7 Entities which can register as FII’s in India. The mutual fund will have a fund manager that trades the pooled money on a regular basis. FII activity in India gathered momentum mainly after the entry of CalPERS (California Public Employees’ Retirement System). A collective investment 15 .Eligibility Entities who propose to invest their proprietary funds or on behalf of “broad based” funds (fund having more than twenty investors with no single investor holding more than 10 per cent of the shares or units of the fund) or of foreign corporate and individuals and belong to any of the under given categories can be registered for Foreign Institutional Investors (FII’s) ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ Pension Funds Mutual Funds Investment Trust Insurance or reinsurance companies Endowment Funds University Funds Foundations or Charitable Trusts or Charitable Societies who propose to invest on their own behalf Asset Management Companies Nominee Companies Institutional Portfolio Managers Trustees Power of Attorney Holders Banks Foreign Government Agency Foreign Central Bank International or Multilateral Organization or an Agency thereof Some of the above mentioned types are described below: Pension funds: A pension fund is a pool of assets that form an independent legal entity that are bought with the contributions to a pension plan for the exclusive purpose of financing pension plan benefits. retirees. a large US-based pension fund in 2004. The net proceeds or losses are then distributed to the investors. and their families.Investment trusts are closed-end funds and are constituted as public limited companies. It manages pension and health benefits for employees. bonds. short-term money market instruments. Mutual funds: A mutual fund is a professionally managed type of collective investment scheme that pools money from many investors and invests it in stocks.2. Investment trust: An Investment trust is a form of collective investment .

objectives. as well as providing advice on transactions such as mergers and acquisitions. University Fund: The purpose of investments of these funds is to establish an asset mix for each of the University funds according to the individual fund’s spending obligations. 16 . Investment banks profit from companies and governments by raising money through issuing and selling securities in capital markets (both equity. in general. and liquidity requirements.scheme is a way of investing money with others to participate in a wider range of investments than feasible for most individual investors. and the principal remain intact in perpetuity or for a defined time period. selling credit default swaps). debt) and insuring bonds (e. as a class. external funds may be invested including funds of affiliated organizations and funds where the University is a beneficiary. It consists of the University’s endowed trust funds or other funds of a permanent or long-term nature. debt and commodities. This allows for the donation to have an impact over a longer period of time than if it were spent all at once. All types of life assurance and insurers pension plans. Hedge funds. They facilitate access to wide range and types of assets for different types of investors. invest in a broad range of investments including shares.g. and to share the costs and benefits of doing so Investment banks: An investment bank is a financial institution that raises capital. and professional management consulting service than is normally available to individual investors. The diversification of portfolio is done by investing in such securities which are inversely correlated to each other. the investment company provides more diversification. pays a performance fee to its investment manager. Every hedge fund has its own investment strategy that determines the type of investments and the methods of investment it undertakes. Hedge funds: A hedge fund is an investment fund open to a limited range of investors that is permitted by regulators to undertake a wider range of investment and trading activities than other investment funds. Many hedge funds investments in India were facilitated by global investors borrowing at near zero interest rates in Japan and investing the proceeds in High interest markets like India. Asset Management Company: An asset management company is an investment management firm that invests the pooled funds of retail investors in securities in line with the stated investment objectives. usually with the stipulation that it be invested. trades in securities and manages corporate mergers and acquisitions. liquidity. and that. Endowment fund: It is a transfer of money or property donated to an institution. They collect money from investors by way of floating various mutual fund schemes. For a fee. Insurance Funds: An insurance company’s contract may offer a choice of unit-linked funds to invest in. both single premium and regular premium policies offer these funds. In addition.

They are wholly or partially exempt from almost all taxes.400 021. or any other purpose regarded as charitable in law. Charitable trusts (unlike private or non-charitable trust) can have perpetual existence and are not subject to laws against perpetuity. A signed declaration statement that appears at the end of the Form.Nominee Company: Company formed by a bank or other fiduciary organization to hold and administer securities or other assets as a custodian (registered owner) on behalf of an actual owner (beneficial owner) under a custodial agreement. relief of poverty. 1st Floor. INDIA. An application for registration has to be made in Form A. Mumbai . 224. Supporting documents required are ∑ ∑ ∑ ∑ ∑ ∑ ∑ Application in Form A duly signed by the authorised signatory of the applicant. 17 . Certified copy of the relevant clauses or articles of the Memorandum and Articles of Association or the agreement authorizing the applicant to invest on behalf of its clients Audited financial statements and annual reports for the last one year . Benevolent and philanthropic purposes are not necessarily charitable unless they are solely and exclusively for the benefit of public or a class or section of it. provided that the period covered shall not be less than twelve months. the format of which is provided in the SEBI(FII) Regulations. 'B' Wing. Address for application The Division Chief FII Division Securities and Exchange Board of India. A declaration by the applicant with registration number and other particulars in support of its registration or regulation by a Securities Commission or Self Regulatory Organisation or any other appropriate regulatory authority with whom the applicant is registered in its home country. Declaration regarding fit & proper entity. Mittal Court. Charitable Trusts or Charitable Societies: A trust created for advancement of education. 1995 and submitted with under mentioned documents in duplicate addressed to SEBI as well as to Reserve Bank of India (RBI) and sent to the following address within 10 to 12 days of receipt of application. Nariman Point. A declaration by the applicant that it has entered into a custodian agreement with a domestic custodian together with particulatrs of the domestic custodian. promotion of public health and comfort. furtherance of religion.

The applicant has to appoint a local custodian and enter into an agreement with the custodian. The process of renewal of sub-account is same as initial registration. The FII should apply on the behalf of the Sub-account. The validity of sub-account registration is co-terminus with the FII registration under which it is registered. However. The fee is to be submitted at the time of submitting the application. The applicant must be a "fit and proper" person. reaches SEBI. 1999 from the Reserve Bank of India. Renewal fee in this case is US $ 1. The applicant should be regulated by an appropriate foreign regulatory authority in the same capacity/category where registration is sought from SEBI. whether incorporated or not.000. three days shall be counted from the days when all necessary information sought. Foreign Institutional Investors are required to fulfill the following conditions to qualify for grant of registration: ∑ ∑ ∑ ∑ ∑ ∑ ∑ Applicant should have track record. Payment of registration fee of US $ 5. c) Foreign Corporates d) Foreign Individuals. is not adequate to qualify as Foreign Institutional Investor. Both the FII and the Sub-account are required to sign the Sub-account application form. The applicant is required to have the permission under the provisions of the Foreign Exchange Management Act. SEBI generally takes three working days in granting FII registration. b) Proprietary fund of FII. in cases where the information furnished by the applicants is incomplete. Applicant must be legally permitted to invest in securities outside the country or its incorporation / establishment. No document is needed to be sent with annexure B. experience. Registration with authorities. OCBs / NRIs are not permitted to get registered as FII/sub-account.The eligibility criteria for applicant seeking FII registration As per Regulation 6 of SEBI (FII) Regulations.1995. "Annexure B" to "Form A" (FII application form) needs to be filled when applying for subaccount registration. financial soundness.000. The fee for sub-account registration is US$ 1.000. professional competence. 18 . which are responsible for incorporation. The mode of payment is Demand Draft in the name of "Securities and Exchange Board of India" payable at New York. general reputation of fairness and integrity.00 SUB-ACCOUNT REGISTRATION a) Institution or funds or portfolios established outside India. Besides it also has to appoint a designated bank to route its transactions.

made on his own account and through his sub-accounts. A Foreign Institutional Investor may invest only in the instruments mentioned earlier. 3. 1995. The amount was increased from US $6 billion to USD 15 billion in March 2009. 3. Following are some of important regulations by SEBI and RBI: 1. these amendments are: 1. foreign corporate etc. were introduced. The cumulative debt investment limit for FII investments in Corporate Debt is US $15 billion. Several new categories of registration viz. US $8 billion will be allocated to the FIIs and Sub-Accounts through an open bidding platform while the remaining amount is allocated on a ‘first come first served’ basis subject to a ceiling of Rs. whether on his own account or on account of his sub. 4. The total investments in equity and equity related instruments (including fully convertible debentures. 19 . 2008. 5. 2. institutional investors including FIIs and their sub-accounts have been allowed to undertake short-selling. 4. convertible portion of partially convertible debentures and tradable warrants) made by a FII in India. 1000 crores of the government debt limits. The debt investment limit for FIIs in government debt is currently capped at $5 billion and cumulative investments under 2% of the outstanding stock and no single entity can be allocated more than Rs. The definition of “broad based fund” under the regulations was substantially widened allowing several more sub accounts and FIIs to register with SEBI. Further. Also. 2. Also the application fee for foreign investors applying for registration has recently been reduced by 50% for FIIs and sub accounts 5. sovereign wealth funds. should be at least 70% of the aggregate of all the investments of the FII in India.249 cr. foreign individual. Registration once granted to foreign investors was made permanent without a need to apply for renewal from time to time thereby substantially reducing the administrative burden.accounts.FII Regulations: Investment by FIIs is regulated under SEBI (FII) Regulations. per registered entity. in 2008 amendments were made to attract more foreign investors to register with SEBI. lending and borrowing of Indian securities from February 1.

The purchase of equity shares of each company by a Foreign Institutional Investor investing on his own account cannot exceed ten percent of the total issued capital of that company. No transactions on the stock exchange can be carried forward. Which stipulated that naked short selling was not permitted and settlement of securities sold short would be through a mechanism for borrowing of securities. in case he is investing on behalf of the sub-account. Securities have to be registered in the name of the Foreign Institutional Investor. An Indian Company can raise the 24% ceiling to the Sectoral Cap / Statutory Ceiling by passing a resolution by its Board of Directors followed by passing a Special Resolution to that effect by their General Body. can settle their only through dematerialised securities. However. the investment on behalf of each such sub-account cannot exceed ten percent of the total issued capital of that company. abroad regulatory framework enabling short selling by FIIs was put in place. Transaction of business in securities can be carried out only through stock brokers who has been granted a certificate by the Board. 20 . With regard to investments in the secondary market. in December 2007. SEBI states that: ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ ∑ The Foreign Institutional Investor is allowed to transact business only on the basis of taking and giving deliveries of securities bought and sold. A Foreign institutional Investor or a sub-account having an aggregate of securities worth rupees ten crore or more. All FIIs and their subaccounts taken together cannot acquire more than 24% of the paid up capital of an Indian Company. as on the latest balance sheet date. or in the name of the sub-account. Investment by foreign registered as sub accounts of FII cannot exceed 5% of paid up capital. Investment by individual FIIs cannot exceed 10% of paid up capital. FIIs are not permitted to short sell equity shares which are in the caution list of RBI.6. Also the rigid criteria of requiring FIIs and sub-account to register as a 70:30 FII/ sub-account or 100% debt FII/sub-account has recently been done away with(as has been discussed above in the essay). Short selling in securities is not allowed. For FIIs investing in the equity shares of a company on behalf of his sub-accounts. Equity shares can be borrowed by FIIs only for the purpose of delivery into short sale. if he is making investments on his own behalf or in his name on account of his sub-account.

This limit is applicable on open positions in all futures contracts on a particular underlying index. long calls and short puts) can not exceed (in notional value) the FII’s holding of cash. 50 Cr. the FII position limit in such stock is Rs. For stocks in which the market wide position limit is greater than Rs. FII Position limits in Index options contracts FII position limit in all index options contracts on a particular underlying index is Rs.The FII position limits in a derivative contracts (Individual Stocks) ∑ ∑ ∑ The FII position limits in a derivative contract on a particular underlying stock i. 250 Crore or 15 % of the total open interest of the market in index futures. whichever is higher. 21 . per exchange. This limit is applicable on open positions in all option contracts on any underlying index.e. the FII position limit in such stock is 20% of the market wide limit. In addition to the above. whichever is higher. government securities. TBills and similar instruments. 250 Crore or 15 % of the total open interest of the market in index options. short calls and long puts) cannot exceed (in notional value) the FII’s holding of stocks. per exchange. FII Position Limits in Interest rate derivative contracts ∑ At the level of the FII – The notional value of gross open position of a FII in exchange traded interest rate derivative contracts is US $ 100 million. 250 Cr. stock option contracts and single stock futures contracts are: For stocks in which the market wide position limit is less than or equal to Rs. FII Position limits in Index futures contracts FII position limit in all index futures contracts on a particular underlying index is Rs. FIIs can take exposure in equity index derivatives subject to the conditions that : ∑ ∑ Short positions in index derivatives (short futures. 250 Cr. Long positions in index derivatives (long futures.

∑ ∑ In addition to the above. which used to be counter force for FIIs has ceased to play that role in the Indian stock markets. Today financial institutions and mutual funds including UTI can do little to help the stock markets at a time of crisis.8 FIIs and their impact on Indian Stock market It is influence of the FIIs which changed the face of the Indian stock markets. 2. FIIs are the trendsetters in any market. Rolling settlement was introduced at the insistence of FIIs as they were uncomfortable with the badla system. Thus. They were the first ones to identify the potential of Indian technology stocks. Equity research was something unheard of in the Indian market a decade ago. this is benefiting domestic investors also. At the level of the sub-account – The position limits for a Sub-account in near month exchange traded interest rate derivative contracts is the higher of: Rs. the stock trading activity has concentrated to these liquid scrips making them less liquid scrips totally illiquid.000 listed companies on BSE. Screen based trading and depository are realities today largely because of FIIs. FIIs can take exposure in exchange traded in interest rate derivative contracts to the extent of the book value of their cash market exposure in Government Securities. It is due to the FIIs that a concept like corporate governance is being increasingly adopted by Indian companies. the activity in stocks used to be evenly attributed with little differences between volumes in specified and cash groups. FIIs have become the driving force behind the movements of the stock indices on the Indian stock markets. When the rest of the investors invested in these scrips. Before the arrival of FIIs. It is expected that with the adoption of international practices such as rolling settlement and derivatives FII participation will increase and more money will flow into the Indian capital market. 100 Cr Or 15% of total open interest in the market in exchange traded interest rate derivative contracts. 22 . they exited the scrips and booked profits. With their massive financial muscle FIIs have almost replaced conventional market of the Indian bourse. It was FII which based the pressure on the rupee from the balance of payments position and lowered the cost of capital to Indian business. The major beneficiaries of the rolling settlement system are FIIs as short settlement cycles offer them quick exit from the market. However since FIIs concentrate on the top 200 companies against the 6. Even UTI.

Also an 23 . an institutional investor from Switzerland but today Indian growth story has attracted global majors like CLSA.796 84. Goldman Sachs. Investment Corporation of Dubai.2. Crown Capital.269 133.396.952 -53. the investment rose to Rs 5445 the next financial year when the economic changes were introduced and further today in 2010-11 it stands at Rs 133. Goldman Sachs and Morgan Stanley.049 In 1993 the first and only FII to invest in India was Pictet Umbrella Trust Emerging Markets’ Fund.602 36. Temasek Holdings. AIF Capital.) 4 5445 4777 6721 7386 5908 -729 9765 9682 8273 2669 44000 41416 47. among others to enter the Indian financial market.049. Fidelity. Goldman Sachs and Macquarie have acquired a 20% stake each in PTC India Financial services Ltd. Macquarie.60 71. Merrill Lynch. reduce risk. Citigroup and India Equity Partners (IEP) have picked a combined stake of 10% in Bharti Infratel. The changes have led to increase in liquidity. HSBC. Citigroup. From the table below it becomes apparent that from just Rs 4 crores of net investment in 1992-93.9 EFFECTS ON INDIAN ECONOMY The various reforms introduced by Indian government to encourage FIIs to invest in Indian market have been effective to such an extent that in November 2010 FIIs stood at 5426 whereas it stood at 1713 in early 1990s. YEAR 1992-93 1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-2010 2010-2011 Net Investments by FIIs (rs cr. improve disclosure and thus FIIs have become the corner stone in the phenomenal rise of the Indian stock market.

Not only it can help in supplementing the domestic savings for the purpose of development projects like building economic and social infrastructure but can also help in growth of rate of investment. With boards often captured by managers or passive. Information asymmetries and incomplete contracts between share-holders and management are at the root of the agency costs. but also improve the alignment of asset prices to fundamentals. FIIs not only enhance competition in financial markets. C. DLF. employment and income of the host country. pension funds in the United Kingdom and United States had 68 per cent and 64 per cent. though good for Indian economy has led to a number of negative consequences. of their portfolios in equity in 1998. Incentives for shareholders to monitor firms and enforce their legal rights are limited and individuals with small share-holdings often do not address the issue since others can free-ride on their endeavor. Improved corporate governance: Good corporate governance is essential to overcome the principal-agent problem between share-holders and management. who. FIIs in particular are known to have good information and low transaction costs. Positive impact: It has been emphasized upon the fact that the capital market reforms like improved market transparency. by contributing to better understanding of firms’ operations. Improving capital markets: FIIs as professional bodies of asset managers and financial analysts enhance competition and efficiency of financial markets. This boost. These because of their interest in hedging risks.entity of Merrill Lynch has picked up 49% stake in seven residential projects of real estate major. improve 24 . FIIs constitute professional bodies of asset managers and financial analysts. are known to have contributed to the development of zero-coupon bonds and index futures. and increasing firms’ incentives to supply more information about them. The market reforms were initiated because of the presence of them and this in turn has led to increased flows. By aligning asset prices closer to fundamentals. For example. B. they stabilize markets. it boosts the production. A. respectively. In addition. By increasing the availability of riskier long term capital for projects. dematerialization and regulations on reporting and disclosure standards were initiated because of the presence of the FIIs. automation. Let us study the positive and the negative side of this rise of investments by FIIs one by one. a variety of FIIs with a variety of risk-return preferences also help in dampening volatility. the FIIs can help in the process of economic development. Bad corporate governance makes equity finance a costly option. Managing uncertainty and controlling risks: FIIs promote financial innovation and development of hedging instruments. D. ensuring the rights of shareholders is a problem that needs to be addressed efficiently in any economy. Enhanced flows of equity capital: FIIs are well known for a greater appetite for equity than debt in their asset structure. But FII flows can be considered both as the cause and the effect of the capital market reforms.

B. some of the entities route their investment through participatory notes to take 25 . and direct control via debt or relationship banking-the third model. board representation is supplemented by direct contacts by institutional investors. C. the exchange rate for the country gaining the money strengthens. And this dependence has to a great extent caused a lot of trouble for the Indian economy. and the RBI pumps the amount of Rupee in the market as a result of demand created.takeover or market control via equity. whereas all FIIs have to compulsorily get registered.corporate governance. If money is withdrawn on short notice. This creates problems for the small retail investor. Inflation: Huge amounts of FII fund inflow into the country creates a lot of demand for rupee. Problem to small investors: The FIIs profit from investing in emerging financial stock markets. leveraged control or market control via debt. Issue related to participatory notes: When Indian-based brokerages buy India-based securities and then issue participatory notes to foreign investors. Any dividends or capital gains collected from the underlying securities go back to the investors. In this third model. direct control via equity. The FII buying pushes the stocks up and their selling shows the stock market the downward path. the banking institution will experience a shortage of funds. D. while the exchange rate for the country losing the money weakens. which is known as corporate governance movement. “Hot money” can have economic and financial repercussions on countries and banks. going up or down. This situation leads to excess liquidity thereby leading to inflation where too much money chases too few goods. Among the four models of corporate control . Secondly. These investors scan the market for short-term. E. Trading through participatory notes is easy because participatory notes are like contract notes transferable by endorsement and delivery. Any entity investing in participatory notes is not required to register with SEBI (Securities and Exchange Board of India). Adverse impact on Exports: FII flows leading to appreciation of the currency may lead to the exports industry becoming uncompetitive due to the appreciation of the rupee. whose fortunes get driven by the actions of the large FIIs. Potential capital outflows: “Hot money” refers to funds that are controlled by investors who actively seek short-term returns. Some of the factors are: A. has institutional investors at its core. Negative impact: If we see the market trends of past few recent years it is quite evident that Indian equity markets have become slaves of FIIs inflow and are dancing to their tune. When money is injected into a country. If the cap on FII is high then they can bring in huge amounts of funds in the country’s stock markets and thus have great influence on the way the stock markets behaves. high interest rate investment opportunities.

will cause economic volatility in Indian exchange and generally these are blamed for the sudden fall in indices. participatory notes are popular because they provide a high degree of anonymity. Foreign institutional investment can play a useful role in development by adding to the savings of low and middle income developing countries. acting through participatory notes. And India among the world inventors is believed to be a good investment destination inspite of all the political uncertainty and infrastructural inefficiencies. It is also feared that the hedge funds. The hedge funds borrow money cheaply from western markets and invest these funds into stocks in emerging economies. These unlike FIIs are not directly registered under SEBI. And also attempts should be made to encourage small domestic investors to participate in the equity market. which can lead to a great loss to the Indian economy. Further. but they operate through sub accounts with FIIs and according to a number of studies it has been found that more than 50% of the funds are flowing through this anonymous route. Thirdly. But still the harsh consequences of FIIs should not be ignored by the government and further reforms should be introduced in the economic sector to counter the tendency of the FIIs to destabilize the emerging equity market.advantage of the tax laws of certain preferred countries. FIIs have contributed a lot in making Indian economy one of the fastest growing economy in the world today. After the liberalization of financial policies India has been able to attract a lot of FII from rest of the world and which in turn has played its part very well by helping in development of Indian economy from what it was in early 1990s to a would be super power that it is today. which enables large hedge funds to carry out their operations without disclosing their identity. 26 .

2.10 FII activity in India from 1992-2006
The Indian financial market was opened to the foreign institutional investors in 1992 to
widen and broaden the Indian capital market. Since then, the net investment by FIIs in India has
been positive every year except in 1998-99. During the last few years, there has been a
phenomenal increase in the portfolio investment by FIIs in the Indian market. (Table 1 & Chart
1). The gross purchases of debt and equity together by FIIs increased by 59.9 per cent to
Rs.3,46,978 crore in 2005-06 from Rs.2,16,953 crore in 2004-05. The gross sales by FIIs also
rose by 78.6 per cent to Rs.3,05,512 crore from Rs. 1,71,072 crore during the same period.
However, the net investment by FIIs in 2005-06 declined by 9.6 per cent to Rs.41,467 crore in
2005-06 from Rs.45,881 crore in 2004-05 mainly due to large net outflows from the debt
segment. The cumulative net investment by FIIs at acquisition cost, which was US$15.8 billion
at the end of March 2003, rose to US$ 45.3 billion at the end of March 2006. (Chart 2) The
provisional net investment figure as of March 2007 was US $ 3225 million as per RBI
Table1:InvestmentsbyFIIs

Source : SEBI Annual Report 2005-06

27

Chart 1 : FII Investments in India

Source : SEBI Annual Report 2005-06
Chart 2: Trends in FII Investment

The FII investment in equity increased significantly since 2003-04. During 2005-06, FIIs
increased their net investment in equities, but reduced their commitments in debt Securities
(Table 2). The net FII investment in equity during 2005-06 was Rs.48,801 crore, the highest ever
in a single year. Buoyancy in the markets was sustained in 2005-06 on account of surge in net
investment by the institutional investors with FIIs playing a major role. Month-wise, FII
investment was negative in the months of April, May and October 2005. However, during the
remaining months of the financial year, there was large net equity investment by FIIs,
28

particularly in the second half of 2005-06, which drove the benchmark indices to surpass the
earlier record highs on several occasions. The net FII investment in December 2005 was the
highest for 2005-06, followed by July 2005 and February 2006. However, month-wise, the FII
investment in the debt segment was negative in all the months in 2005-06. The total net
investment in the debt segment in 2005-06 declined by Rs.7,334 crore mainly due to firming up
of the yield rate of G-sec across the entire maturity spectrum.
Table 2: Investments by MFs & FIIs

Source : SEBI Annual Report 2005-06
Several factors are responsible for increasing confidence of FIIs on the Indian stock
market which include, inter alia, strong macro-economic fundamentals of the economy,
transparent regulatory system, abolition of long-term capital gains tax and encouraging corporate
results. Reflecting the congenial investment climate, the total number of FIIs registered with
29

an increase of 197 over the year ( Table 3). 2006 compared to 685 a year ago. GOI 2005 30 . Table 3: FIIs Registered in India FINANCIAL YEAR DURING THE YEAR TOTAL REGISTERED AT THE END OF THE YEAR 1992-93 0 0 1993-94 3 3 1994-95 153 156 1995-96 197 353 1996-97 99 439 1997-98 59 496 1998-99 59 450 1999-00 56 506 2000-01 84 528 2001-02 48 490 2002-03 51 502 2003-04 83 540 2004-05 145 685 2005-06 210 882 Source : Expert Group Report. The diversity of FIIs has been increasing with the number of registered FIIs in India steadily rising over the years.SEBI increased to 882 as on March 31.

Trinidad and Tobago. These developments have helped improve the diversity of the set of FIIs operating in India. Canada. accounting standards. Belgium. The highest number of FIIs. 31 . was from the USA (342). There has been increase in the number of FII registrations from non-traditional countries like Malaysia. Strengthening of the rupee dollar exchange rate and low interest rates in the US. (chart 3). 2006. high quality of disclosure and corporate governance requirement. Saudi Arabia. efficiency of clearing and settlement systems and risk management mechanisms. Sweden. About 90 per cent FIIs come from the top 13 countries. Improved regulatory standards. SEBI had registered FIIs from 37 countries. Product diversification and introduction of derivatives. Italy. Ireland etc. Denmark.SOURCES OF FIIS As on March 31. Chart 3: Country-wise FIIs Registered with SEBI as on 31st March 2006 Several factors were responsible for increasing confidence of FIIs on the Indian stock market which include: ∑ ∑ ∑ Strong economic fundamentals and attractive valuations of companies. 2006. Australia. shortening of settlement cycles. as on March 31. followed by the UK (148).

A look at stock indices since 2006 shows that the markets peak when FII inflows are the highest and fall when FIIs are missing in action. FIIs sell-off of USD 13. FIIs were allowed to invest since 1991 when the economy opened up. Since 2003. there have been 32 months of negative FIIs flows as against 88 months of positive flows. governments across the globe implemented plans to boost their economies. "What hurt in 2008 was not the performance of companies but rapid outflow of $13 billion (Rs 55. an estimated amount of Rs 2. We hear a lot about sales and purchases made by foreign institutional investors (FIIs) in Indian equity markets.000 crores has accounted for a 20% sell-off of the total FII's equity investment since 1991. is "Indian markets are primarily driven by FII fund flows." says Nick Paulson-Ellis. making India one of the worst emerging market performers for 2008. there have been 19 months of negative FIIs' flows as against 53 months of positive flows. respectively.3 lakh crores.179 crore in June.The markets were flat during the first three months of 2009 as FIIs stayed away.2. India. and the longest selling streak was seen from May to November. The year 2008 has seen the biggest ever FIIs sell-off for the Indian markets.219 in 2007 to 1. The number of registered FIIs have increased from 1. where USD 3. helped by robust economic growth. 32 . the BSE Sensex fell almost 50% due to the global financial meltdown.8 billion and UDS 3.11 FII ACTIVITY FOM 2006-2010 2008 FII sell-off the largest ever The Indian equity market kept on sliding in September 2008 with the S&P CNX NIFTY. there were negative FIIs' flows seen for 10 months. when the FIIs sold Rs 1. with these numbers often making headlines. In January. while the number of registered sub-accounts have increased from 3644 in 2007 to 4872 in 2008. wiping out the gains of 2007. with a decline of around 10%. in 2008. Espirito Santo Securities.595 in 2008. The biggest sell-off was seen in March. were sold.000 crore) as investors fled risky assets.881 crore. a correction bought the most at Rs 7. FIIs have invested USD 53.2 billion. For instance.16 billion or Rs 2. October and January were two carnage months.3 trillion of shareholders' wealth were eroded in the Indian stock markets. became a preferred destination for investors.16 billion or Rs 53.702 crore follwed by Rs 3. With all courtesy to the US financial markets and its crisis bug. showing the second sharpest fall since January 2008. Why are we so obsessed with FIIs? The answer. In 2008. The depreciation by 23% in rupee and the 51% sell-off in the markets has resulted in the Defty falling 61%. Since 1999." The market slide can be attributed to lower FII inflows in 2011. After that. India head.

Between December 2006 and July 2011.60 9764.45 6065 1403.10 Table shows the position of FIIs investment in equity from 2006-10. Again a bearing trend could be noticed during November due to the fact that new norms about PNs were announced which ordered the winding up of PNs within next 18 months.40 2113.50 8304. 33 .30 4028.3 lakh crore) into Indian equities.30 1330.50 -2690.30 5419.80 18519. the impact of supportive level was pulling the FII‟s money in India.70 19939. the number of FIIs registered in India rose from 1. FII‟s showed keen interest in purchasing the equity in the Indian market.20 2010 5902.730. the Sensex surged 85%.80 24770.90 1476.70 2008 -17326.80 -7526.60 17120.50 7939. crossing the 2007 level. It is clear from the above table that during 2007.80 -7937.60 11185. Moreover.00 -14248.50 15577. As a result positive impact in the net position was seen.60 -2820. FII‟s turned towards net selling in equity for profit booking and seeing the massive sell out of shares in global markets including India especially on August 16 & 17 when there was massive equity selling.80 4574.30 -10577.000 cr.20 20606.80 10367.60 18132. Table 1: Net FIIs Investment in Equity (2007-10) MONTH JAN FEB MARCH APRIL MAY JUNE JULY AUG SEPT OCT NOV DEC 2007 94.90 -2065.50 18833.40 979.00 -4917.40 4896. Consequently the SENSEX broke down to even 4 to 5% of its previous levels.90 124. helping the Sensex gain 25%.90 3224.30 5431.10 5317.024 to 1.90 11625. the bears took command of the market and some brokers also started off-loading their positions anticipating a further fall and stop loss button was pressed by many investors. With FIIs investing a net $19 billion (Rs 93.80 18948.50 -8629. So far as the month of October was concerned.85% was the surge in the Sensex in 2009 with FIIs investing a net Rs 84.90 10244. But so far as the month of August was concerned. apart from August 2007.50 269 7384.60 -4597.70 -1012. crossing the 2007 level.30 29195. the trend continued and FIIs pumped in $30 billion(Rs 1.100 crore) in 2009. In 2010.90 2009 -3009.

This was due to the fact that impact of international recession had started affecting Indian markets also. The year 2008. During the year 2009. FIIs went on to purchase more equity during this year with the exception of the month of May.08 100. The main reason could be tremendous selling at the beginning of the year. Table No: 2 FII Inflows in Equity (2006-10) YEARS NET PURCHASE/ SALES RS. During the year 2010. The trend of FII‟s inflows witnessed during quarter from April to June continued further and FII‟s proved to be the prime investors in the month of September.e.494 140497. This year market sentiments seemed to improve from March onwards as the foreign investors starting returning with their investments.g. March & April showed a consistent pattern in the trading activities.2 264. But from the month of May to November.05 226.00 70940.2 436. FII‟s started pumping funds into emerging markets like India because of its growth potential and stability of Indian Stock Market.e.949 It is evident from this table that apart from the year 2008. FII‟s again showed the exit mode from the stock market. in all other years. 34 . India emerged out as one of the better performing markets since October crash and the growth potential was seen. Due to this reason a negative impact of FII‟s was reflected showing immense selling and taking back their money from the Indian stock market. The reasons for such huge investments by FII‟s in this month could be attributed to number of positive news about Indian economy.978 -530517. the same trend of revival of economic activity could be observed. 2009 and 2010 because of the fact that Indian economy could recover well from the shocks of worldwide recession due to its strong fundamentals and rules and regulations. The trend turned positive with the sign of revival of economies.The analysis of the above table depicts a negative view of the FII‟s investment in India during 2008. (IN CRORES) TREND % 2006 2007 2008 2009 2010 32254. This showed positive view of FIIs about Indian market.70 -169. there has been a positive trend in FII inflows in India. As a result. FII‟s investment in equity showed an initial sell off in the first two months. February. as we all know. the crash of Banks and investment firms like Lehman Brother had also started impacting global economy. Market analysts feel that the foreign fund managers were trying to play safe and therefore rushed towards risk aversion and taking off their money.743 85367. The next three months i. was the year of worldwide recession. The value of the trend is higher during last two years of this study i. Further the famous subprime crisis of USA e. may be the impact of 2008 was still continuing.

In the year 2008.18 100.20 35 .00 2007 8356.08 2007 20826 70940.6 2008 -530517.40 147.3 2010 140497. Industrial growth plays a pivotal role in increasing the GDP.68 2009 3458.40 28.05 2008 9647 -53051. the industrial growth of India also rose up.80 1574.Table 3: FII Investments in Debt (2006-10) YEARS NET PURCHASE/ TREND (%) SALES RS.2 5.2 6. Table 4: Comparison between FII inflows & Industrial Growth Rate YEARS NET FII INFLOWS INDUSTRIAL GROWTH RATE (%) 2006 32254.05 7. During the next two years. The sharp rally in rupee against the US dollar also led to an increase in the FII interest in the debt market. a fall in industrial growth can be observed.8 2009 85367.248 2008 12340.219 The analysis of the above table depicts the positive trend of FII‟s investment in debt market.08 7. Thus it can be safely said that industrial growth rate has not been much influenced by the FII inflows. The sharp rise in the FII inflows into the debt market came after a sharp rise in the interest rates over the past couple of years which attracted the foreign investors towards the Indian market. It means that during the period under study. Table 5: Relationship between FII Inflows & SENSEX YEAR SENSEX FII INFLOWS 2006 13786 31254.8 The analysis of above table shows that there is a Low Degree of Correlation between FII inflows & Industrial Growth Rate.20 2010 20509 140497. the industrial growth rate still increased. in spite of major outflows. (IN CRORES) DEBT 2006 3629.4 2007 70940.70 2009 17464 85367.70 9. with the increase of FII inflows. Besides that market observers believed that the huge inflow into the Indian equity market also led to FIIs parking a portion of their capital into the debt market as a hedge against any potential downslide in the stocks.13 230.025 2010 54442.

36 . In 2010 most of the stocks which have shown an increase in prices were driven by huge FII buying. In the year 2007 when FIIs were pumping money in stock market and were Net Buyers of Equity worth Rs. when the SENSEX moved from a high of 12. However. For instance. 2006. thus leading to a dip in the selling price of these shares.38 to a low of 8. the FII holding in HDFC has been 58-60% since 2008. the trend turned positive and overseas investors started betting big on the domestic bourses as the liquidity conditions started improving. respectively. 70940. This rally of 1000 points of SENSEX infused Rs.05 Crores. Investments during 2007 by foreign funds were the most influential group of investors in the market. This has disturbed the demand and supply ratio to a great extent resulting in easy availability of shares of well-performing companies. the FII holding in ICICI Bank has been 38-40% for years. But in the later part of 2008 the SENSEX crashed affecting large number of investors. sending the benchmark indices to record peaks. But from 17000 to 20000 it moved in a span of few weeks i. Thus it can be observed that there is a positive correlation between FII inflows and SENSEX. In January 2008 the SENSEX touched the new height of 21000. Interestingly.928. in 2009 with the sign of revival of economies.e. 2403 Crores during a period of just 49 trading days. 2006 to June 14. the SENSEX was moving upwards on the weekly basis. The bulk of this amount came in after the US Fed cut interest rates on September 18 which ultimately led to increasing liquidity in global markets. A large amount of equity in the form of shares was floated in the Indian economy as an impact of Foreign Institutional Investors (FII‟s) withdrawing their money from the Indian markets. The major cause of this crash was attributed to the recession in the global economies. Between March 2008 and 29 September 2011. HDFC Bank and ICICI Bank have risen 35% and 20%. from 26th September 2007 to 29th October 2007.612. It took nearly two months for the SENSEX to move from the level of 15000 to 17000. As the Indian markets move from one peak to another this year. the dependence of the Indian equity markets on the foreign investors was further proved by the fact that in the period between May 10.Table 5 shows the impact of FII‟s on SENSEX. In 2006 the foreign institutional investors (FII) inflows were a bit slow. which had already reached all-time highs. FIIs injected $2. India continued to be a favored destination for FIIs and would continue to be so because of its strong fundamentals.44.7 billion into the markets. In September. but they once again proved that they were the drivers of the Indian equity market. PROPPING UP STOCKS Investing in stocks with high FII interest can give good returns. Similarly. especially with the US dollar losing its strength to the Indian rupee. This could well be reflected in the FII inflows towards the country. foreign institutional investors (FIIs) have pumped top dollar into stocks.

In tandem with the boom in stock markets and a better global scenario.12 PRESENT SCENARIO (2010-2011) Recent Trends in Foreign Institutional Investment Foreign Institutional Investors play an important role in Indian securities markets. FIIs made a record investment in the Indian equity market in 2010-11.46. The combined gross sales by FIIs also increased by 20. 37 .599 crore in 2010-11 from 8. foreign institutional investment has increased over the years except in 2008-09. The total net investment of FII was 1. investments by FIIs into India were quite high in last few years.161 crore from ` 7.Since 1992-93.03.2. Chart: Trends in Foreign Institutional Investment The gross purchases of debt and equity by FIIs increased by 17. when FIIs were allowed entry into Indian financial markets. particularly since 2003-04.438 crore as compared to of 1.42.46. This was the highest net FII investments into Indian securities market in any financial year so far.2 percent to 8.46.780 crore during the same period in previous year.50).92. surpassing the 2009-10 inflows.3 percent to 9.438 crore in 2009-10 (Table 2.658 crore in 2009-10.

2010. 2011. increased to US$ 1.121 crore in equity and 36.107 crore) and September. 2010 (8.690 crore). 2011 (10. FIIs invested 1.177 crore) followed by July.10.979 crore) and November.317 crore in debt as compared to an investment of 1. During 2010-11.12).293 crore). 2010 (28. Month-wise. which was US$ 89.2010 ( 24.51 and Chart 2. In debt segment.2010 (18.561 million at the end of March. 38 . the net FII investment was the highest in equity segment in October.Table : Investment by Foreign Institutional lnvestors Cumulative investment by FIIs at acquisition cost.10.21. FII investment was the highest in January.335 million at the end of March. 2010(7.220 crore in equity and 32.563 crore) followed by September.438 crore in debt during 2009-10 respectively (Table 2.

index futures (2.310 crore as on March 31.The FIIs have been permitted to trade in the derivatives market since February.34.51: Investments by Mutual Funds and Foreign Institutional lnvestors 39 .33.838 crore by end-March 2011.88.52).547 crore) (Table 2. Table 2.22. 2002. followed by stock futures( 6.890 crore) and stock options ( 22.875 crore). The cumulative FIIs trading in derivatives was 5. 2011 as compared to 3. Open interest position of FIIs in index options was the highest at 11.83.748 crore as on March 31.2010.

an increase of 5. showing an increase of 0.722 FIIs registered with SEBI as compared to 1. 1996 was 19.713 a year ago.378 as on March 31. 2011. sub-accounts and custodians during 2010-11 is provided in below Table Table : Number of Registered FIIs. As on March 31.Chart: Net Institutional Investment (crore) and Monthly Average Nifty Registration of Foreign Institutional Investors and Custodians of Securities There was a small increase in the number of Foreign Institutional Investors (FIIs) registered with SEBI. as compared to 17 a year ago.686 sub-accounts registered with SEBI as on March 31. 2011 as compared to 5. 2010. Status of registration of FIIs. There were 5.73 percent The number of custodians registered with SEBI under the SEBI (Custodian of Securities) Regulations.53 percent during the year. there were 1. as on March 31. 2011. Subaccounts and Custodians 40 .

This intense interest in debt markets helped India get a net FII inflow of Rs 39.98 billion). while couple of SEBI-registered FIIs and sub-accounts bought stakes in NSE.353 crore (US$ 7. investments. According to the data available with the Bombay Stock Exchange (BSE). 41 . They majorly enhanced their holdings in auto stocks such as Mahindra & Mahindra.81 billion) during 2011. Where majority of emerging economies are experiencing huge capital outflows by foreign institutional investors (FIIs). The overview further discusses recent developments.75 per cent at the end of June 2011.46 billion) for the year (taking both.743 FII accounts and 6. facts & figures and Government initiatives pertaining to foreign investments in India. FII – Recent Developments ∑ ∑ ∑ ∑ ∑ According to the data released by Securities and Exchange Board of India (SEBI). Hero MotorCorp and Bajaj Auto. while the number of FII sub-accounts was 6. A report titled 'Doing Business in India' by Ernst & Young (E&Y) further supports the fact by highlighting India as the second most preferred destination for foreign investors. The number of FIIs registered with SEBI stood at 1.54 per cent at the end of May 2010 to 4. Global rating agency Moody's has uplifted Indian bond market by upgrading credit rating of the Indian government's bonds from the speculative to investment grade.The Indian economy has successfully proved its mettle time and again in terms of financial stability and economic sustainability as it has resiliently weathered global financial turmoil.debt and stocks. FII flows account for about 45 per cent of the market free-float. Indian markets have managed to hold their confidence as well as investments during such times.Key Investments ∑ FIIs have bought stakes in BSE and National Stock Exchange of India (NSE) recently. next only to China. 2011. FIIs have consolidated their holdings in 11 out of the 30-Sensex firms during the July-September quarter of 2011.000 crore (US$ 113. Maruti Suzuki. FIIs purchased stocks worth Rs 600. 028 sub-accounts at the end of September 2011 FII. The statistics revealed that there were 1. The move is expected to attract higher investments from FIIs and help companies raise funds at competitive rates abroad.into account). Overseas entities are among the important drivers for Indian stock markets.749 as of October 2011.058 during the month.067 crore (US$ 7. Argonaut Ventures (a US-based private equity firm) increased its stake in BSE from 2. India's foreign exchange reserves stood at US$ 297 billion as on December 30. FIIs were also seen attracted to the debt market in 2011 wherein they infused Rs 42.

That is why the Ministry of Finance started 2012 with a happy announcement by allowing foreign nationals.84 million) through a share sale to institutional investors by March 2012. The Government's top priority seems to be the enhancement of investor base for the Indian markets. According to data released by auditing and consultancy firm KPMG. According to market insiders. investment limit in infrastructure bonds was raised from US$ 5 billion to US$ 25 billion in March 2011. the Ministry of Finance enhanced investment limit for FIIs in G-secs and corporate bonds by US$ 5 billion each. when IFC's approved funding is estimated at US$ 10 billion. trusts and pension funds to invest directly in the country's listed companies from mid-January 2012. first three quarters of 2011 witnessed a 31 per cent increment in private-equity (PE) investment to US$ 7. Government Initiatives Government of India keeps taking different initiatives in order to attract FII investments.∑ ∑ ∑ ∑ India-based micro-lender SKS Microfinance has raised investment limit for foreign institutional investors in the company to 74 per cent from 24 per cent and the company plans to raise funds of up to Rs 5 billion (US$ 94. Similarly. Also. along with the debt instruments issued by infrastructure companies. As on October 31. The Government intends to increase capital flows in Indian markets through such measures that would eventually increase the availability of resources for Indian corporate. The Blackstone India chief was reported to have said that he intends to close 5-6 deals a year in India whose financial valuations would revolve around roughly US$ 100 million to US$ 120 million each.8 per cent of total committed portfolio in fiscal 2011. Private equity firms like Blackstone India and Kohlberg Kravis Roberts & Co (KKR & Co) are betting high on Indian markets. For instance. in November 2011.82 billion) in Government securities (G-secs) and Rs 68. IFC plans to scale up equity investments over debt funding in private firms in India. FIIs injected Rs 41.253 crore (US$ 7. 42 .289 crore (US$ 12.89 billion. increasing the cap to US$ 15 billion and US$ 20 billion respectively. 2011. Also. FIIs can now also invest in debt instruments issued by non-banking financial companies (NBFCs) categorised as 'Infrastructure Finance Companies' by the Reserve Bank of India (RBI). World Bank's private equity arm IFC has made its single-largest country exposure to India at 8. the Government is considering a trim on the lock-in-period in the corresponding bonds to one year from three years. In a bid to attract more FII funds into the Indian infrastructure sector. India is expected to take the lead during the fund allocation for the current fiscal (year ending June 2012).95 billion) in corporate bonds.

the stock market scam of early 2001. The critical question to ask is: whether there was any perceptible difference. 2004. in the behaviour of the FIIs vis-à-vis that of domestic investors? Table 7: India: FII Behaviour During East Asian Crisis Table 8: India : FII Behaviour in the aftermath of Pokhran Nuclear Explosion 43 . But. particularly with a bias towards destabilization. the Pokhran Nuclear explosion (May 1998) and the attendant sanctions. and the Black Monday of May 17. These are: the East Asian crisis in 1997. The investment behavior of the FIIs vis-àvis the movements of the stock market indices during these episodes FII investment behavior during these four specific events indicates that these events did affect the behaviour of the foreign portfolio investors. these events did affect domestic investors’ behaviour as well. and influencing the behavior of investors. which are negative shocks affecting the economy.EPISODES OF VULNERABILITY IN INDIA There have been some episodes of vulnerability in India.

88 lakh crore contained Rs.170 crore per day – has never been observed.Table 9: India : FII Behaviour during the Stock Market Scam 2001 Table 10: India: FII Behaviour around Black Monday. but the success of a radical new market design in the Indian equity market have led to enormous growth of liquidity and market efficiency on the equity market.5 lakh crore of gross turnover by FIIs.170 crore per day – are small when compared with equity turnover in India.5 lakh crore in a year might have been large in 1993. Transactions by FIIs of Rs. In calendar 2004. India’s ability to absorb substantial transactions on the equity market appears to be in place. 2004 These experiences show that FII outflow of as much as a billion dollars in a month which corresponds to an average of $40 million or Rs. 44 . FIIs are a small part of the Indian equity market. May 17. These values – Rs. Through this. gross turnover on the equity market of Rs. This suggests that as yet.

reducing the residual maturity period to one year for investments of up to $5 billion. this will also help in developing our bond market. The changes are likely to enhance capital flows and investments at lower cost. which can further boost the country's economic growth. investments under this scheme had a minimum residual maturity of five years and were subject to a minimum lock-in period of three years.650 crore and for the corporate bonds it is 74. the government should bring in reforms and attract investments in infrastructure. 2011 decided to increase investment limit of Foreign Institutional Investor (FIIs) in government securities and corporate bonds by $5 billion as the current limit for this year has almost been exhausted. bonds hiked The finance ministry on Nov 18. 2011. we can see that as on October 31. the government had relaxed norms for FIIs investment in long-term infrastructure bonds. However. this year's borrowings have touched $21 billion. and for the corporate bonds the cap has been enhanced to $20 billion. Now. and will reduce the borrowing cost for the government. so far. Indian corporates also have enough room to borrow through the External Commercial Borrowing route where the cap is $30 billion. The present ceiling for government securities is Rs 43.000 crore. an FII can invest up to $15 billion in government securities .000 crore in corporate bonds. government security and corporate bond (assuming a conversion rate of Rs 50). FII investment in India has reached its current limit for both government papers and corporate bonds. 45 .RECENT DEVELOPMENTS FII investment limit in government securities. From the table below. The changes will be effective in the next few days after the Securities and Exchange Board of India issues a circular and notifies it. In September. Further. This move will further give an investment opportunity of approximately Rs 25000 cr in each. the investment in long term infrastructure bonds is merely Rs 2837 cr (in the first 7 months of FY12 ) versus the limit of Rs 112095cr Since infrastructure is a key area where India is still lacking. FIIs have invested more than Rs 41. The move will help in cooling the 10-year government bond yields. As on October 31. Though the government had raised investment limit of FIIs in long-term infrastructure bonds from $5 billion to $25 billion in the 2011-12 Budget. 2011. FIIs have nearly exhausted the investment limit in government securities and corporate bonds. of which.000 crore in government papers and Rs 68. reflecting confidence of foreign investors in Indian economy.

as the interest rate cycle in India is almost at its peak. Particulars Government Securities Corporate Debt Corporate Debt . It will also ease some pressure from the government with respect to the rupee. Going forward. which has depreciated in the past couple of quarters. there could be a rise in the prices of the bonds. such as moving a step ahead for developing the bond market.Long Term Infra New Cap for Investment (In USD bn) Old Cap for Investment (In USD bn) Investment limit according to old cap (Converted into INR Cr) 15 10 43650 20 25 15 25 74416 112095 Investment made by FII according to old cap (Converted into INR Cr) Additional Investment could be made (Assuming Conversion rate of Rs 50) in INR Cr 41253 25000 68289 2837 - 25000 46 . a cool off in the 10-year bond yield to some extent and attracting foreign investment in the country. Overall. the move has multiple purposes.We further feel that this move will attract a lot of FIIs. helping the rupee stabilise. leading to better capital gains.

This liquidity will help in growth of the country.” Wellindia Executive Director Hemant Mamtani said.12 billion (about Rs 25. FIIs were gross buyers of shares worth Rs 79. given that the liquidity conditions remain strong. out of which more than $5 billion were pumped in the month of February. The index finished at 17. FIIs had mostly stayed away 47 . where they had infused Rs 28.212 crore ($ 5.219 crore.000 crore ($5.25 percent last month.752. while their gross sales for the month were worth Rs 50.329 crore. Strong surge in FII inflows in 2012 so far has helped boost the equity markets.212 crore) during February.563 crore. as sentiments got a boost from easing inflation concerns and attractive valuations.68 on February 29.0016 crore ($2. Overseas investors poured in over Rs 26. while they sold equities amounting to Rs 54. despite a fall of about 3. “Indian market will continue to witness inflows in the whole year.12 billion).6 crore. the highest one-month net inflow in 16 months. translating into a net inflow of Rs 26.987 crore ($5.16 billion for the Indian stocks.898. The foreign fund houses also infused Rs 1.2. Foreign Institutional Investors (FIIs) purchased equities and debt securities worth a gross amount of Rs 76.03 billion) in the debt market last month.6 crore. translating into a net investment of Rs 25.548 crore in January 2012.08 billion) so far this year. as also the rupee.” he added.13 FII activity in 2012 The investment by overseas investors into Indian stock market since the beginning of 2012 has crossed $7 billion level. if the liquidity conditions remain strong. This takes the overall net investments by FIIs into debt markets to Rs 25. as per data available with market regulator Sebi. This is the highest monthly net investment by FIIs in equities since October 2010. taking the total for 2012 so far to $7.686. “FIIs have been infusing money into the Indian market due to change in RBI’s monetary policy that have added liquidity to the system.Market analysts attributed strong FII inflows to signs of a reversal in RBI's monetary policy and the subsequent impact of improved liquidity position. The stock market barometer Sensex has gained 15 per cent in 2012. They expect the positive trend to continue further. During February. Market analysts attributed strong FII inflows to signs of a reversal in RBI’s monetary policy and the subsequent impact of improved liquidity position.08 billion) in Indian markets in January 2012. as per data compiled by the market regulator Sebi. The Foreign Institutional Investors (FIIs) infused a net amount of $ 5.

293 crore. In the year 2011. The foreign fund houses have also infused Rs 17. he added. This is the highest net investment by FIIs in stocks and bonds since September 2010. Stock market inflows in the first 17 days of February.281 crore in the debt market so far this year. equity funds focused on all emerging markets put together have seen an inflow of over $24 billion in 2012.from Indian equities in 2011. at Rs 13.480 crore during the year. It is not only India which has witnessed an upsurge in investment. Strong surge in FII inflow in 2012 has helped boost the equity markets as well as helped the Indian rupee to strengthen. FIIs purchased stocks and bonds worth Rs 8 lakh crore. Strong surge in FII inflow in 2012 has helped boost the equity markets as well as helped the Indian rupee to strengthen. were higher than that for the entire month of January 2012.9 lakh crore. FIIs infused money into the Indian market mainly on account of easing inflation.” CNI Research Head Kishor Ostwal said. “In 2012.867 crore. They flocked towards the debt market last year with a net investment of Rs 20. "FIIs investments in debt market are rising because of higher yields on local bonds." Bandyopadhyay said. foreign funds have poured in maximum money in infrastructure and pharma stocks. In terms of equity investment. while pulling out Rs 2. but sold securities worth Rs 7. a relaxing of foreign investor restrictions and the RBI’s policy moves. 48 .358 crore. which stood at Rs 10.812 crore from equities. resulting in a net investment of Rs 17.

at Rs 11. This means around $4 billion of money has already flown into the country in the first 45 days of this year. the chief Asia and emerging markets strategist at Morgan Stanley. nothing seems to have changed. after the December quarter corporate numbers. India. It has resulted in Sensex moving from a low of 15. Jonathan Garner. too fast. Inflows in the first 15 days of February. Fundamentally. is one of the best performing ones today. developed markets are trading at 14 times their reported profits. chief global equity strategist at Bank of America Investor. The main reason for the sharp 18 percent rise in indices is the Rs 22. either in India or in the world. since Sebi started disclosing the data in 2000. 49 . It has outperformed the MSCI World Index by 6 percentage point.681. which was among the worst performing markets by December 2011. According to a report in Bloomberg. In fact.000 crore FII money that has entered the country.358 0n 2 January 2012 to 18.231 on 15 February. So what is the secret behind this sudden rally? The answer is the largest foreign inflows since the turn of the decade. Reuters The MSCI (Morgan Stanley Capital International) Emerging Markets Index has already gained 15 percent in 2012. which stood at Rs 10. the best start to a year since 1991. the highest ever.907 crore. the outlook is even more bleak.000 mark and closed at a six-month high. said the surge in optimism is a contrarian indicator that may signal the rally has gone too far.7 crore.Secret of the Sensex: Biggest FII turn-on since 2000 The Sensex crossed the 18. says holdings in emerging markets have climbed to a level that historically foreshadowed short-term underperformance. were higher than that for the entire month of January 2012. Michael Hartnett. While emerging markets trade at a valuation of 12 times their reported profits.

6-7. At the moment.9 percent. Some experts believe the results could inhibit the government from taking any bold reform measures and lower the prospects of the economy. The rupee also plunged below 50 against the dollar. Power and metal companies also received allocations of 6. 50 .173 points on Tuesday. Indeed. although their shares have declined slightly from the September quarter. it’s clear that the banking sector has been the favourite among sector investments. which could dampen the appetite of foreign investors. the Sensex reported volatility as it closed lower at 17. The banking sector retained its top position for eight of the the nine quarters analysed by the investment research firm.From the chart below. 500 points lower from its intra-day high on the elections results. as investors sensed more economic policy-making delays ahead. FIIs had an 11 percent exposure to this sector in the December quarter. it’s difficult to tell whether foreigners will continue to invest robustly in India’s capital markets.

web links were used. As an exploratory study is conducted with an objective to gain familiarity with the phenomenon or to achieve new insight into it. this study aims to find the new insights in terms of finding the relationship between FII'S and Indian Stock Markets. The study focuses on Bombay Stock Exchange. In this research the sale and gross purchases data was used to find therelation with sensex Framing Of Hypothesis:Following hypotheses were developed for the study and tested at 5% level of significance. Monthly closing data of sensex (1992-2012). Hypothesis 1 ∑ Hypothesis (H1) There is significant relationship between Sensex and FII equity investment ∑ Null Hypothesis (Ho): There is no significant relationship between Sensex and FII equity investment Hypothesis 2 ∑ Hypothesis (H2) Sensex is significantly correlated with FII equity purchases ∑ Null Hypothesis (Ho): There is no significant relationship between Sensex and FII equity purchases Hypothesis 3 ∑ Hypothesis (H3) Sensex is significantly correlated with FII equity sale ∑ Null Hypothesis (Ho): There is no significant relationship between Sensex and FII equity sale 3.CHAPTER 3: Research Methodology The study carried out is analytical and empirical in nature in which it explores the relationship between the Inflows of FII and their impact on Indian Capital Market. magazines. books.2 Data Collection Data for the study collected primarily from Secondary sources. Monthly data of FII flow in equity (1992-2012). Yearly data of FII flow in equity (19922012).1 Research Design Exploratory Research method applied for the study. journals.Yearly data of sensex (1992-2012) 51 . 3. For this various literatures.

3. whether large values of one set are associated with large values of the other (positive correlation). We can use the Correlation tool to determine whether two ranges of data move together . 20 **. 20 .770** . Table 1 Correlation among FII & Sensex for entire period from liberalization 1992-2011 Cor relations sens ex sens ex NetFII Pearson Correlation Sig. Correlation analysis measures the relationship between two data sets that are scaled to be independent of the unit of measurement. Convenience sampling is a non-probability sampling technique where subjects are selected because of their convenient accessibility and proximity .000 20 1 .3. The population correlation calculation returns the covariance of two data sets divided by the product of their standard deviations.3 Sampling Method Convenient Sampling method used for the Study.that is.770** . Data were analyzed with the help of SPSS 12. (2-tailed) N 1 . or whether values in both sets are unrelated (correlation near zero).0.01 level 52 .4 Research Analysis Tools The data was classified and tabulated using MS EXCEL and SPSS 12. Correlation is s ignif icant at the 0. whether small values of one set are associated with large values of the other (negative correlation). (2-tailed) N Pearson Correlation Sig.000 20 NetFII . Correlation analysis used as statistical tool for data analysis.

72 72 72 **.310** .004 72 Gross Purchase GrossSales NetInvst . Correlation is s ignif icant at the 0. *.528** .Dec 2011 Cor relations sensex sensex GrossPurchase GrossSales NetInvst Pearson Correlation Sig. (2-tailed) N Pearson Correlation Sig.638 .614** 1 -. (2-tailed) N Pearson Correlation Sig. (2-tailed) N Pearson Correlation Sig.528** . Table 3 Correlation among FII & Sensex from Jan 2010.437* .000 72 .095 1 .668** . (2-tailed) N 1 .000 . (2-tailed) N Pearson Correlation Sig.001 .001 . .001 27 .154 . 72 .004 72 72 72 1 .334** . Correlation is s ignif icant at the 0.01 level (2-tailed).008 .01 level (2-tailed).000 .008 72 72 72 .000 .614** . 53 .000 .085 .437* . .023 27 Gros s Purchase GrossSales NetInvst . 27 27 27 **.883** 1 -. (2-tailed) N Pearson Correlation Sig.668** .000 27 27 27 .310** -. 27 .085 27 .154 72 72 72 . .000 72 .000 .337 .605** .23 March 2012 Cor relations sens ex sens ex GrossPurchase GrossSales NetInvst Pearson Correlation Sig.605** . (2-tailed) N Pearson Correlation Sig.337 .023 27 27 27 1 .723** .095 .334** . Correlation is s ignif icant at the 0.170 1 .170 .638 27 27 27 .Table 2 Correlation among FII & Sensex from Jan 2006. (2-tailed) N 1 .05 level (2-tailed).723** -. .883** .001 .

Degree of correlation between FII sale and sensex is 0. It was also revealed that the performances of indices were also highly and positively related. Correlation Test has been carried out to find the degree of association between the FII Gross Purchases and Sensex and FII Gross sales and sensex. Degree of correlation between Net FII flows and BSE Sensex is 0. It was also revealed that the performances of indices were also highly and positively related. FII equity investment yearly and monthly and closing of Sensex Indices were considered. FIIs gross purchases have been taken as independent variable to find the impact of FII because net investments involve negative values when there are more sales as compared to purchases FII invest in scripts of these Indices because they provide higher returns as compared to large cap scripts.770 hence hypothesis H1 is accepted Table 2 Table 2 also indicates that performance of indices is positively correlated with FII and the strength of correlation is very strong.337 hence hypothesis H3 is rejected Results and Findings So for the study of data from 1992 to March-2012. It was also revealed that the performances of indices were not affected by the performance of gross sales. First of all correlation between sensex and FII gross purchase and FII gross sale and sensex is carried out to verify relation between them Sensex of Bombay Stock Exchange is considered as the barometer of Indian Capital Market. This inference is further supported by high degree of correlation coefficient obtained between two variables in the Table-1. This high degree of correlation further suggests that there is direct correlation between the Midcap & Smallcap Indices and FIIs investments. 54 .668 hence hypothesis H2 is accepted Table 2 also indicates that performance of indices is positively correlated with FII and the strength of correlation is very strong. Degree of correlation between FII purchase and BSE Sensex is 0.5 Analysis and Interpretation Table 1 It is revealed from table 1 that performances of indices are positively correlated with FII and the strength of correlation is very strong.528 hence hypothesis H3 is accepted Table 3 Table 3 also indicates that performance of indices is positively correlated with FII and the strength of correlation is very strong.3. It was also revealed that the performances of indices were also highly and positively related. Degree of correlation between FII purchase and BSE Sensex is 0. It was also revealed that the performances of indices were also highly and positively related Degree of correlation between FII sale and sensex is 0.605 hence hypothesis H2 is accepted Table 3 also indicates that performance of indices is positively correlated with FII and the strength of correlation is very strong. 2 & 3.

In this event when any correction takes place the stock prices decline and there will be pull out by the FII in a large number as earning per shares declines. 5. The FIIs manipulate the situation of boom in such a manner that they will wait till the index rises up to a certain height and exit at an appropriate time. The high degree of volatility in Indian stock market is caused by the increase in investment by FIIs which increases stock indices that in turn increases the price and encourages further investments. when their behavior in the market exerts pressure on policy makers. there is decline in Midcap & Smallcap Indices. However. Secondly. The possibility for money to be made via volatile markets is how short term market players like day traders hope to make money. Indices rises. Volatility is often viewed as a negative in that it represents uncertainty and risk. The movement of FIIs gross purchases follows almost significant influence on the movement of Midcap & Smallcap Indices. 3. and buys on the lows one can make money. When there is a downward trend in FIIs due to huge selling. Foreign institutional investment is certainly volatile in nature and its volatility has certainly posed some threats to the Indian stock market considering its influence on the market. It would provide additional incentives for FII investment and this encourages further investment so that there is a tendency for any correction of price and when the correction begins it would have to lead by an FII pullout and can take the form of extremely sharp decline in the share prices Indices because only FIIs are not responsible for the fluctuations instead there are other factors like company specific factors. This tendency increases the volatility further. 55 . government policies related to specific sectors etc.This analysis indicates the impact of FIIs on Indices. Growth potential of Indian Capital Market has attracted the continuous increase in the number of registered FIIs and the Gross purchases made by them. the wealth effect' where capital gains are translated into increased consumption and investment. Findings of the study can be summarized as: 1. On the other hand if there is an upward trend in FII due to more gross purchases as compared to selling. 2. volatility can be good in that if one shorts on the peaks. political factors. can act as a more direct link between equity and physical markets. FIIs are always considered to increase the volatility of market. and is in contrast to the long term investment view of buy and hold. speculative trading. 4. Increase in investment by FIIs cause sharp price increase. The movements in Midcap & Smallcap Indices and Sensex are highly correlated with FII equity investment in Indian Capital market. interest rate prevailing in the market. with greater money coming with greater volatility. An FII driven market can impact the real economy indirectly. which cause a significant change in the price.

If the price-to-earnings multiple of our market is considered. stocks are not as cheap as they were in 2003 or 2008 when valuations were less than 10x. privatization and globalization and creating euphoria that resulted in historic market returns. this is not new phenomenon. Based on these growth estimates. we will try to understand the nature of FII investments and their importance in shaping the market direction and returns. a slowdown elsewhere in the world will have little impact on India. given the current earnings growth rates in India.CHAPTER 4: FUTURE PROSPECTS 4. India had grown despite the high interest rates and inflation. So will India be lucky to repeat the inflows of 2007 again in 2012? But before we come to that. In the early 1990s.16 billion for the Indian stocks. Over the last 30 years. The inflow helped Indian equity market to turn around from the negative return of year 2011 and post one of the best returns in the last two decades . Various conducive factors are present that can encourage these flows.2 per cent. but when we look at it from the perspective of the Indian equity market the massive inflow has far-reaching consequences. 56 . Good monsoons and higher farm prices should keep the rural economy humming. According to Bloomberg's consensus estimate. While no one prefers the policy freeze in New Delhi. India's real GDP growth has averaged about 6. it is still attractive as it is below the long-term average of 17.212 crore) during February. it may be just another factoid. With little dependence on the western world for its growth. That was mainly because the then Finance Minister and present Prime Minister Dr Manmohan Singh ushered in new economic policy of liberalization. However.8 per cent in 2013.1 Reasons Why FIIs Will Keep Pumping Money Into Indian Market The Foreign Institutional Investors (FIIs) infused a net amount of $ 5. for FIIs coming into India with an 8-9 per cent GDP growth assumption.12 billion (about Rs 25. To begin. taking the total for 2012 so far to $7. however.5 per cent growth could be a disappointment. we might see those kinds of valuations. For some.7 per cent with more equitable growth is far better than a 9 per cent growth number with massive corruption. valuations appear reasonable. a 6. for India. Those worried about inflation need to remember that. earnings is expected to grow 25. The second factor is that valuations of Indian stocks are attractive and earnings growth is good. If the euro crisis escalates further.6x. there is little risk to the long-term GDP growth in our country.5. The last time we witnessed return in excess of 75 per cent was in 1991. India may attract better portfolio flows this year. Domestic consumption continues to be key factor driving growth.6 per cent in FY2012 and 16. at the current levels. a rate of growth in GDP of 6.

the 16 per cent depreciation in the rupee since August seems unwarranted. Undoubtedly. which is also substantiated by the fact that registration of new sub-accounts has declined by 60 per cent. 375 new FIIs got registered in India as compared to just 111 in 2009. slowing inflation and lower economic activity would set the stage for the RBI to reverse its monetary policy by cutting interest rates and adding liquidity. 2011 as compared to 5. There were 5. However. this has helped attract record inflow of FII money into Indian equity market. 2011.000 crore (USD 11. when market was down 53 per cent and FIIs pulled out about Rs 53. thus improving investment sentiment. 2010. despite 70 per cent fall in new registrations of FIIs in 2009 (see graph) .722 FIIs registered with SEBI as compared to 1. given the huge deficits in India. But as we stand at the dusk of 2012.3 billion) from Indian market. Year-todate. which is positive for an FII. things are clearer than they were at the start of the year. As on March 31.686 sub-accounts registered with SEBI as on March 31. we find most of the crises have blown away and although certain patches of uncertainty in the global recovery still remain.713 a year ago. This means that the amount has been pumped by the existing FIIs only. there were 1. showing an increase of 0. So there is a case for currency appreciation. There was a small increase in the number of Foreign Institutional Investors (FIIs) registered with SEBI.73 percent 57 . the rupee has appreciated 7.6 per cent. One of the reasons for such low registration numbers might be that many of the hedge funds that were very active during pre-crisis time have either liquidated or significantly cut down their exposure to emerging markets and are still treading with caution. there were 1705 FIIs registered in India. we are of the view that the rupee will depreciate. an increase of 5. In 2008. Shaky Beginning At the dawn of year 2009 we were staring at uncertainty in the global markets and also facing one of the worst corporate governance issues (Satyam Computers) in India. As things stand today. At the end of November 2009.In the first half of 2012.378 as on March 31.53 percent during the year. On a long-term basis. foreign investors get to buy more Indian assets for the same dollar due to a weaker rupee.

resulting in crash of the benchmark Sensex and suspension of trading for an hour. FIIs seem to be more sensitive to bad news than good news. Even among FIIs it is investment through participatory notes (P-Notes). SEBI banned investment through P-Notes on October 17. In 2007. This means FIIs are more cautious while investing than while withdrawing it. FII Inflows & Their Impact One of the reasons for FII money seeking global investment avenues was the fiscal stimulus packages provided by governments across the world as also the lack of demand from the real economy. which is considered as prime source of ‘hot money’ and hence volatility. Moreover. If the past evidence of FIIs’ investing pattern in a different country is anything to go by. The drop may be attributed to the fear of the regulator imposing the ban again. This is because there is little clarity on who the actual investors are and the source of their money. we analyzed data for FII inflows (or outflows) and the returns generated by 58 . but they have been also accused of fuelling volatility. including emerging markets. To keep tabs on this hot money. they view every market as an asset in their global portfolio and.21 per cent in 2009 (see graph). To understand how important and effective these FII investments are for Indian equity market. investment through P-Notes constituted 45. The FII money found its way to the different financial asset classes.5 per cent of FIIs’ total assets under management. 2007. they tend to restructure and rebalance their portfolio dynamically across countries to minimize and maintain healthy returns on their portfolio. which makes them react in a knee-jerk fashion to bad news. But the latest SEBI figures suggest that supplies of this hot money are on the decline.How ‘Hot’ is Hot Money? FIIs have fuelled rallies in stock markets across the world. therefore. This is on the backdrop of SEBI lifting the ban on investment through P-Notes. The explanation to this behaviour is that FIIs are riskaverse. which has come down to just 16.

FIIs have not increased their stake in all the companies. Sensex and inflows moved in tandem. BSE Realty gave returns of 174 per cent as compared to 73 per cent by Sensex. These were also the sectors that suffered the worst last year due to credit crisis and got hammered on the bourses. 2009 outpaced their respective indices by a wide margin. respectively. Therefore. Similarly. they are not the only ones to influence it. Similarly.14 per cent to 5 per cent in February 2012. both sector-wise and company-wise. it is no coincidence that in the history of the Indian equity market the only time when Sensex and Nifty were closed due to upper circuit in May 2009 also happens to be the month when FII inflows were highest at Rs 20. For example. Having established the fact that FIIs greatly influence the stock market. 3i Infotech. These are also the sectors where demand has more to do with domestic consumption. Now. When we analyzed the FII investments in terms of company categorized by market capitalization. which is part of BSE Realty are up by just 80 per cent and 174 per cent. It was not surprising to find that Sensex had given positive returns only eight times despite negative flows from FIIs. Of course. For example. After the second quarter of FY10. they reduced it from 17. 59 . although FIIs are an important force that moves the stock market. HCC. etc. The sectors where they particularly evinced keen interest were construction. let us check where all this money got parked.37 per cent in TV Eighteen during the same time period. Clearly. infrastructure and heavy engineering. For example. respectively. we will now try to understand the factors that determine the FIIs inflows and why they will invest in the Indian market in 2012. NDTV has moved up 88 per cent. and this might be one of the reasons why returns of these indices had outperformed Sensex and Nifty. FIIs have raised their stake in more than 200 companies. most of whom belong to media and entertainment. they have also lowered their holdings in various companies. Indiabulls Real Estate. we came across a startling revelation that instead of choosing the large caps or Nifty companies. when we calculate the returns of these companies in the same period we do not find that they have underperformed the market. HCC.BSE Sensex in the corresponding period. Sobha Developers whose returns were 227 per cent and 223 per cent. FIIs have reduced their holdings in NDTV from 23. FIIs have instead shown more interest in small and mid cap companies like HDIL. which is part of BSE 200 and Sobha Developers. However. So how do these fare in terms of returns as compared to the broader market and peers? We find that these outperformed. between April-Sept.99 per cent to 11. In almost 70 per cent of the times.607 crore.

VP. which in turn.” says Mirchandani. which contributes more than 60 per cent of the GDP. Therefore.941 billion ($1. Even in euro area. “it also creates bubbles in different asset classes. we believe liquidity will not be sucked out of the global economy in a hurry and part of this liquidity will definitely finds its way into Indian equity market. is set to inject more liquidity into the banking system. many fresh issues are lined up. which will take care of extra liquidity.034 trillion) ie in European Central Bank (ECB) In contrast to US Federal Reserve & ECB. attract more liquidity. “If the government goes for PSU divestment as planned.9% estimated in 2011-12 on the back of declining 60 . which are more dependent on export sector and commodity cycle.” says Ambareesh Baliga. The amount of such excess liquidity in the euro area banking system is estimated to be €776.Therefore. This is evident from the recent policies by these governments. our market will become deeper and will absorb this extra inflows in 2012 and yet avoid much of its pitfalls. So with quarter ending there is little room for further reduction in various credit facilities. Indian economy is more dependent on domestic consumption. the excess cash in the US banking system should stay close to a trillion euro throughout 2012.As per belief FII investments in India will be driven by seven major factors that are listed below. But we feel this is not a big concern in case of India. The excess cash in the US banking system has risen by USD 400 billion since March 2009 and has reached 3 trillion euros in Feb 2012 as quantitative easing (QE) exceeded the liquidation of credit facilities. liquidity is expected to remain at higher level till the second half of 2012. ∑ Indian Growth Story Liquidity and corresponding inflows is like a double-edged sword. Apart from this.6% in the next fiscal 2012-13. and although it helps create wealth by better market returns. Taurus Mutual Fund. Head of Equity Investments. Fresh equity issuance (FPO/IPO/QIP) will continue over the next few quarters and will remain an important source of capital for the private sector till deleveraging is complete and credit growth improves and is incremental. Karvy Stock Broking and remains the single most important factor which determines the FIIs inflow. up from 6. This makes it less vulnerable than those economies. The Indian Government's 2012 economic survey has projected the economic growth at about 7. including art and paints” says Mohit Mirchandani. ∑ Liquidity “Liquidity moves the markets. We feel that global economy is still flush with liquidity and will remain at this level till second quarter next year. high liquidity creates the problem of absorbing the high inflows with its side effects.

there might be some scrips which might go up to 300 per cent. However. industries.” says V. healthcare. Nonetheless. It expects the economic growth to further improve to 8. Moreover. which will take care of some of the concerns on higher valuation.6% in 2013-14.. though it will remain below the pre-crisis level. technology. We believe that once the global recovery comes back on track. but India still offers more diversified stocks than any other emerging market to an investor.inflation and softening interest rate. and depending on the evolving economic outlook. ∑ Diversified Opportunity India offers a much more diversified market than markets such Russia. while the market may stay range-bound. Sriram. so certainly we are not cheap when trading. 61 . Moreover. one can definitely absorb flows in various pockets. But when we speak of these stretched valuations. financials. banking. “India offers diversified exposure across various sectors covering consumers. So. Hence. services and the range of listed companies available in India is much broader than in Eastern Europe or Russia. India’s GDP will accelerate further. etc. Chinese market provides a much bigger size in financial and raw materials market. India is less volatile than many emerging markets and more transparent to international investor community – something that would always give a premium over the long-term. till now it was the government spending (either directly through stimulus packages or indirectly through doling out money through 6th Pay Commission) that has been the driving force of recovery but now what will take the market forward is the investment cycle and capacity utilization which is slated to accelerate next year. there are many companies which are available at very cheap price. it will translate into better growth numbers for India Inc.” opines Mirchandani. long-term investors such as pension funds whose investment horizon is much longer (about 10-15 years) are also attracted ∑ Opportunity in Indian Companies Although Indian market ranks among the top half of the costliest emerging markets. giving more reasons for FIIs to be a part of the Indian growth story. India offers opportunities in IT. “But if we scratch the surface and look at mid caps and small caps. These economies are largely based on commodities like crude and less in terms of primary articles and products. We believe that there is still scope of upgrading of corporate earnings in certain pockets. materials. it is mainly related to broader market indices like Sensex and Nifty and earning multiples of companies on those indices. Brazil or even China. The year 2012 will be more of stock-picking rather than sector-specific.

it appears that somehow the two have decoupled as of now. Other major central banks such European Central Bank and Bank of Japan are expected to follow suit.∑ Carry Trades Other important factor in India’s favour and which is attracting FII inflows is the relatively higher interest rate. we do not find any compelling reasons to justify the reverse of dollar carry trade.360 on December 24. but so far the strategy has worked profitably on an average. Going forward. resurrected after the Dubai crisis. which involves borrowing in lower yielding (US dollar or Japanese yen) assets and investing in higher yielding assets (rupee) and pocket the difference.in terms of interest rate policy. it was no coincidence that dollar index too hit its high of 89.. Ideally. It has been observed that there is inverse relationship between dollar index and Sensex (see graph). Dollar index actually measures risk aversion: when it declines. whereas dollar index declined to 77. a measure of the performance of the US dollar against a basket of currencies including the yen and euro is one of the most important factors which will shape the future FII inflows. In addition. It noted that the Fed funds rate would remain between 0 and 0.34. and reiterated that it was likely to maintain this exceptionally low interest rate stance through late 2014.25 percent. Till the time differential interest rates remain at these levels and other things remaining equal. From there.89 after hitting low of 74. after loosing ground to most of the major currencies throughout 2009. when Sensex hit its low on March 9th. FIIs look at investing to riskier assets and vice versa. In addition. ∑ US Dollar Index The movement of dollar index. The current near-zero interest rate in the USA and Japan as against the 4-5 per cent in the Indian market gives rise to a strategy called 'carry trade'. Therefore. the US Fed announced no changes. 2009. We feel that this was partly due to investors playing safe rather than sorry.26 on November 25. This may also be explained by investors’ tendency of taking away profit from the table as the year draws to a close like what happened in last quarter of 2011 62 . 2009. but it is worth mentioning that despite such ascent of the dollar. whatever gain one would have expected from this strategy should be negated by the expected movement in exchange rate. It is still premature to come to any conclusion about the future course of dollar index and jury is still not out. Sensex has continued its climb. we can expect the flow to continue. the US dollar. Therefore. And now in 2012 when sensex is 17300 dollar index is back on 79. Sensex started its ascent and touched high of 17.

Recognizing the importance of FIIs to the Indian stock market. which as a policy has been adopted by some of other emerging markets. This led to the return of risk capital into Indian equity market. we believe that the FII inflows will remain intact over the long term. JPY. CAD. The Finance Minister has also gone on record stating that as of now there is no need to tax capital inflows. This was cheered by the market and for the first time Sensex and Nifty hit the upper circuit. to take on the challenges of global competition. the world recognizes that India and China will provide the growth impetus for the global economy. CHF and SEK) ∑ Political Stability India being the largest democracy in the world definitely inspires confidence in the Indian economy. although we might see some temporary blips occasionally 63 . Therefore. To conclude. India’s democratic polity would always enable a premium over the long term. its political system and new vigour in India Inc. This also reduces the risk premium of the country from the FIIs’ perspective. but what differentiates India is its peculiar demographic dividend which will last longer than many emerging economies. Last. which gave a clear mandate to the Congress party and ushered in the Manmohan Singh government once again.(The USD Index measures the performance of the US Dollar against a basket of currencies: EUR. the government has played its own role and Finance Minister has constituted a working group to recommend changes in the existing policies so as to attract more portfolio investments. The FIIs’ confidence got a further boost after May 2009 general elections. but not the least. GBP.

Since there are quite a few positives in the Indian market. This is because if crude prices fall. volatility and uncertainty could increase. THREE SCENARIOS :. after this downgrade.The silver lining is that such volatility is expected to be short lived. So for foreign fund managers as well as institutional dealers in India. However. long-term FII funds. three phases are likely to unfold over the next few months that could be assigned to this unthinkable incident of US ratings downgrade. that is likely to unfold after a few months from now. money will not go back to the US During the third phase. On the other hand. registered with Sebi as FIIs. As a result. like pension funds and insurance companies.provided crude falls and RBI halts monetary tightening. FIIs have pumped in just over $7. fund managers say that FIIs could actually look at India as a preferred investment destination. they warned that in case if any of the two other ratings majors—Moody's and Fitch—also cut US sovereign ratings. there are not many alternative markets that offer them good growth and chance of a better return than India. most FIIs are expected to be on the 'wait-and-watch' mode for a few months from now. institutional dealers said. compared to about $29. The combined effect.4. This is something that was witnessed after the dust settled on the Lehman collapse and the recession that followed in September 2008.2 US Rating Downgraded By S&P The decision by S&P.As things stand now for FIIs. that could bring down government's subsidy burden on petro products. to cut US' sovereign rating by a notch to 'AA plus' from 'AAA' is something that has no precedence. India could actually start attracting more foreign funds than before. This is because most hedge funds are momentum traders and in times of uncertainty they prefer to be in cash. institutional dealers and fund advisors said. Infact. in one of the scenarios that could emerge over a period. 64 . So far this year. will sell in 2012 like they did in last quarter on 2011. it may actually make India an attractive investment destination in the long term .However. For the long term players. see how things pan out in other parts of the world and then take a decision on their India portfolio. could again lure foreign fund managers to invest in the Indian economy. will not sell in a hurry but will wait to have a better understanding of the implications and then take a decision on their India exposure. the global ratings major.5 billion into the Indian market. market players believe. pull down the rate of inflation. Some of the hedge funds. this is something they don't understand and hardly anyone has a definite clue how to react to it. brokers are certain there could be some knee-jerk reaction and selling during 2012 While the US rating downgrade is likely to trigger panic selling in local markets.4 billion in 2010. and also might help RBI's in not raising the rate of interest in the economy. Sebi data reveals. Institutional dealers feel 2012 could be a much better year for FII inflows.

First of all correlation between sensex and FII gross purchase and FII gross sale and sensex is carried out to verify relation between them Sensex of Bombay Stock Exchange is considered as the barometer of Indian Capital Market. Secondly. the major fall in SENSEX has been caused amidst selling of FIIs due to reasons like increased net selling by foreign funds during January or fear of interest Rate hike by RBI or depreciation in the value of Rupee in comparison to dollars. we conclude that FIIs have major impact on Indian stock market. and buys on the lows one can make money. So this analysis indicates the impact of FIIs on Indices. The biggest fall in stock markets occurred in 2007 and 2008. Further money launders and even terrorists can use this facility to pump money to Indian market and their sudden withdrawal can cause volatility in markets. Particularly. can act as a more direct link between equity and physical markets. So there is a direct relation between the FII's money flow and the movement of SENSEX. when their behavior in the market exerts pressure on policy makers. 283468.40 Crores by the end of 2007. even market had to be closed for one hour without trade. An FII driven market can impact the real economy indirectly. 2007. there is a general perception that market is on a song. 2 & 3. FIIs are always considered to increase the volatility of market. the wealth effect' where capital gains are translated into increased consumption and investment. This inference is further supported by high degree of correlation coefficient obtained between two variables in the Table-1. volatility can be good in that if one shorts on the peaks. The impact is that even the domestic players and MFs also follow a close look on FIIs. But there is a note of caution too. Even during the current year also. Volatility is often viewed as a negative in that it represents uncertainty and risk. if FIIs are confident in Indian markets. The possibility for money to be made via volatile markets is how short term 65 . with greater money coming with greater volatility. Otherwise this can cause a negative impact on stock market as was the cause of fall on 17th October 2007. This means that the volatility of market was more because during this period there was an increase in registration of FIIs and the investments reached almost Rs. Therefore. The source of investment behind these FIIs should be crystal clear. Correlation Test has been carried out to find the degree of association between the FII Gross Purchases and Sensex and FII Gross sales and sensex. in which just a speculation about government’s plan to control P-Notes had caused the biggest fall in Indian stock market. However. This high degree of correlation further suggests that there is direct correlation between the Midcap & Smallcap Indices and FIIs investments.CHAPTER 5: CONCLUSION From all the above discussions and data analysis. From above discussion it is clear that major falls in stock market were after effects of withdrawal of money by FIIs. the decline on October 17.

It would provide additional incentives for FII investment and this encourages further investment so that there is a tendency for any correction of price and when the correction begins it would have to lead by an FII pullout and can take the form of extremely sharp decline in the share prices Indices because only FIIs are not responsible for the fluctuations instead there are other factors like company specific factors.market players like day traders hope to make money. interest rate prevailing in the market. speculative trading. we can safely say prime facie that the FIIs influence market. political factors. Foreign institutional investment is certainly volatile in nature and its volatility has certainly posed some threats to the Indian stock market considering its influence on the market. which cause a significant change in the price. From all this analysis. Increase in investment by FIIs cause sharp price increase. and is in contrast to the long term investment view of buy and hold. government policies related to specific sectors etc. 66 .

1 Jan 2009) Economic Outlook April 2011 67 .ft.htm www.ftalphaville.bseindia.com http://www.finance.in/Index.com/finance www.asp http://www.com/content/equities/eq_fii_nsebse.com www.reuters.nseindia.gov.jsp?contentDisp=Database www.com www.com/india/stockmarket/foreigninstitutionalinvestors/10/55/activity/FII http://www.17) August 2011 Journal of Business and Economic Issues (Vol.indiamart.capitalvia.sebi.indianexpress.trak.Bibliography http://www.com www.in/Tags/Business/fii/ www.com/news/fii http://www.com/histdata/hindices.com Dalal Street Investment Journal (Issue No.mydigitalfc.triplecrisis.scribd.moneycontrol.com www.