Route offers diversification option

Author: | Published: 1 Aug 2012
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The QFI investment route was introduced by the Indian government in January 2012. How does this work?

To achieve higher foreign capital inflows, the government has allowed qualified foreign investors (QFIs) to invest directly in the Indian securities market. QFIs can invest in the equity shares of listed Indian companies, corporate debt segments and the units of domestic mutual funds. QFIs need to be resident in either of the following: a Financial Action Task Force compliant country or any country that is part of the Gulf Cooperation Council or European Commission.

QFIs will need to open an account with a qualified depository participant (QDP). All trades will be routed through a QDP and a QDP will empanel brokers for execution of a transaction. As per the recent clarification issued by the finance ministry, clients have been allowed to open an individual non-interest bearing rupee bank account with an authorised dealer. Investment in a company by QFIs is subject to an individual limit of 5% and an aggregate investment limit of 10%. A separate limit of US$1 billion has been created for QFIs to invest in corporate bonds and the debt schemes of mutual funds.

How does the QFI route differ from the FII route?

The QFI regime is meant for non-institutional investors although it allows for individuals, family offices, corporates and institutions to invest in Indian securities subject to certain conditions. It is envisaged that QFIs will directly invest in equities, corporate bonds and mutual funds as retail investors. On other hand, foreign institutional investors (FIIs) are treated as qualified institutional buyers (QIBs). They are required to register with Sebi, they have disclosure requirements, and they are also allowed to register their clients as sub-accounts and issue offshore derivative instruments.

Apart from equities, corporate bonds and mutual funds, FIIs can also invest in government securities, commercial paper, securities receipts, equities and interest rate derivatives. QFIs need to post upfront margin to trade equities, while FIIs do not need to do so. QFIs also do not need to appoint a local custodian, unlike FIIs. And QFIs need to open an account with a QDP and a non-interest bearing bank account with an authorised dealer.

Do you see this as a positive development for the Indian capital markets?

Allowing foreign investors to come in as QFIs is a step in the right direction. Over a period of time, this will become a significant route for investment in the Indian capital markets.

Which entities are most likely to employ the QFI investment route?

High net worth individuals and family offices will be some of the major investors in the QFI space. This route allows QFIs to invest directly in India and provides them with an ability to diversify their portfolio. Also, institutions and corporates that were earlier planning to enter the Indian market through the FII sub-account route may also consider directly investing through the QFI route.

How well has the introduction of the QFI route been received?

QFIs will help deepen the Indian equity market and achieve higher foreign capital inflows. With the current global environment, and market conditions in India, we have not yet seen major investments through this route however. Investors have also raised issues, such as the requirement for all orders to be routed through a depository participant, the need for a permanent account number (PAN), and the need to file tax returns in India. This all needs to be looked into.

The requirement of conducting in-person verification of QFIs by depository participants is also difficult as QFIs will be based out of India. It will be helpful if offshore affiliates of QDPs are allowed to do this verification. Also, most of the developed countries have stringent solicitation norms for soliciting investors in their jurisdiction. There needs to be an understanding between the regulators whereby local QDPs are recognised by foreign regulators and are allowed to solicit clients in their jurisdiction.

From the recent clarification issued by the finance ministry, we understand that Sebi and the tax authorities may provide further clarification in near future to alleviate some of these issues.

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