PUNE - Despite the Bombay Stock Exchange
index (Sensex) touching an all-time high this week,
the romance between India and foreign funds seems to
have only begun. The stock-market regulator, the Securities
and Exchange Board of India (SEBI), now proposes to give
a fresh impetus to growth by opening up the Indian
equities segment to real estate mutual funds.
Indicating the Indian regulator's plans, SEBI
chairman G N Bajpai said at a recent seminar in Mumbai
that the body is "close to finalizing these norms". The
SEBI chief also stated that the regulator was in the
process of fine-tuning the norms for allowing less
broad-based hedge funds to invest directly in India.
Simultaneously, the Association of Mutual Funds of India
(AMFI) has been pushing for the opening up of commodity
derivatives to the industry. "The industry needs
investment options outside equity and debt," said A P
Kurien, AMFI chairman.
Such "official"
statements have deepened the interest of foreign funds
in India, with several new ones eyeing the country and
several other who had left earlier considering re-entry.
According to Bajpai, over 100 new foreign institutional
investors (FIIs) have registered with the regulator in
2004 alone, accounting roughly for one-fifth of all FIIs
registered in India. Given this influx, other reputed
foreign funds such as the Vanguard group, Capital
International, UBS Warburg and BNP Paribas are also
keenly watching India. "With global giants like Fidelity
entering the Indian market, others cannot be far
behind," said Kurien. His views are echoed by experts
like Naina Lal Kidwai, deputy chief executive officer of
HSBC's India Area Management Office. She maintains that
the Indian capital markets are safer than ever before
and that while there is room for improvement, "they are
equal to the international best".
The impetus
to open up The regulator's pronouncements are
based on the demand from the major players in the mutual
funds space who have been pushing for wider investment
opportunities. Thus when SBI Mutual Fund recently filed
its prospectus with SEBI for its Magnum Commodity Fund,
it sought permission to invest in commodity futures.
However, since the norms are still not in place, the
SBIMF has had to reconcile itself to investing in the
stocks of companies that deal in commodities. The same
is the case with real estate, where the industry would
like the regulator to allow it to invest directly
instead of limiting its options just to the stock of
real estate companies.
SEBI is inclined to open
up the commodities and real estate sector to the mutual
funds industry as it will broaden these firms'
investment options as well as make foreign funds
available for the development of these segments.
However, allowing hedge funds to invest in India is
another matter. While SEBI is inclined to do so, the
Reserve Bank of India (RBI) and the Finance Ministry
would like to tread cautiously. Though Bajpai made
public his intent to open up the Indian stock market to
foreign hedge funds in early December, he was overruled
a week later by the High-Level Committee on Capital
Markets headed by the RBI governor. This committee is
also comprised of the finance secretary and the SEBI
chairman. Sources in the know of the proceedings of the
closed-door meeting said the committee felt that the
time was not right yet for opening up the markets to
hedge funds.
Market access Currently,
SEBI norms do not recognize hedge funds as a separate
category of investors. An expert committee that went
into the issue of opening up the Indian capital markets
to foreign hedge funds in 2003 had stated, "There is no
exact definition of the term 'hedge fund'; it is perhaps
undefined in any securities laws ... Hedge funds are
unregistered private investment partnerships, funds or
pools that may invest and trade in many different
markets, strategies and instruments (including
securities, non-securities and derivatives) and are not
subject to the same regulatory requirements as mutual
funds."
SEBI norms at present allow only foreign
investors who meet the following criteria to invest in
India:
The foreign investor has to be an institutional and
not an individual investor.
The foreign institutional investor has to be
registered in its home country.
Each fund must have at least 50 members.
This
means that only broad-based foreign funds that are
regulated in their home countries by the respective
regulators are allowed to invest in India. Foreigners
cannot invest directly in India though they could gain
entry using the mutual fund route. Hedge funds are
closer to individual investors in structure than the
broad-based funds governed by investment norms and are
answerable to a larger number of investors. Hedge funds
represent the pooled investment of a few high net-worth
individuals that is managed by professional managers.
They are dreaded because unlike the broad-based funds,
they have the flexibility to enter and exit from markets
at will, paying scant attention to the havoc they wreak
in the process. Hedge funds have also come for
additional scrutiny in recent years as they represent
both legitimate and dirty money, providing a front to
drug-dealers, weapons-traders, terrorists and their ilk
to launder funds through cross-border investments.
India and hedge funds Since
India has been categorical in its disapproval of
hedge funds investing directly in the country, traders such
as George Soros have invested here through broad-based funds.
But recent developments in the Indian stock market
have proved that it is possible to beat these norms.
SEBI investigations in the last securities market scam
showed that though hedge funds were barred from investing
in the Indian stock market, they had been reaping
profits all the same through the participatory-note (PN) route.
This was made possible by handing over their funds to
the registered FIIs to manage. The FIIs issued PNs
against the sum managed, which was invested in Indian
stock.
What is interesting about this
structure is that since these are private funds managed
through the sub-accounts of FIIs, the names of the investors
are confidential. Also, it is difficult to estimate
what quantum of money has found its way into the Indian
stock market by this route though according to one
estimate, the net hedge-fund investment in India stands at about
$2 billion (Rs88 billion) while more than Rs30 billion was
repatriated back by the hedge funds as capital gains
during the peak of the securities scam of 2001.
After that
scam, SEBI barred unregistered hedge funds from
investing in India through the PN route. But SEBI has
been consistently arguing that since these funds are
investing in India all the same, it is better to
recognize them as a separate category of foreign
investors and subject them to regulations in India.
Instead of guesstimates, accurate statistics would also
be available on the activity of hedge funds if this were
to be done. The other Indian regulators, however, have
not bought the argument. Part of the reason is the fear
of hedge funds and their destabilizing influence on the
currencies of countries where they operate. After the
East Asian meltdown, then Malaysian prime minister
Mahathir Mohamad blamed Soros for undermining the
ringgit and weakening Malaysia's economy by his
recklessness. India has always prided itself on its
ability to insulate itself from external crises such as
the East Asian one by adopting a cautious approach to
foreign exchange management. "Hence we are not in a
hurry to open the floodgates to hedge funds yet," said
an RBI official.
Further, India also follows an external-debt management policy that
is aimed at gradually bringing down the stock of
foreign currency debt as well as reducing the proportion
of short-term foreign-currency debts to long-term ones. With the
net FII inflows in 2004-05 already touching an all-time
high of about $6.6 billion, the government is wary
of adopting measures that would increase its stock
of short-term foreign-currency debt further. "It is better
to woo the more stable foreign direct investments," said
a Finance Ministry official.
The timing also
seems to be wrong in other ways. Kirit Somaiya,
parliamentarian and president of the Investor's
Grievance Forum, who has been fighting for long for
better stock market regulations and has been leading the
attack on speculative FII investments in India, has been
opposed to any move that would compromise the interests
of minority shareholders. "The safety of the markets is
the prime duty of a regulator. It is the regulator's
duty to keep an eye on whether the money flowing into
the stock markets is coming from co-operative banks,
foreign institutional investors, NRIs [non-resident
Indians] or any other source. It is also the regulator's
job to ensure that only stable, long-term funds that
will not destabilize the markets find their way to
India."
Jayanthi Iyengar is a senior
business journalist from India who writes on a range of
subjects for several publications in Asia, Britain and
the United States. She can be contacted atjayanthiiyengar1@hotmail.com
.
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