P-Notes: SEBI Measures Have Little Impact On FII Investments

Mumbai: Foreign institutional investors (FIIs), who pumped in a little over Rs 30,500 crore in net investments in the three weeks prior to the Securities and Exchange Board of India (SEBI) outlining its draft restrictions on the former’s ‘participatory note’ based investments, have been net sellers to the tune of roughly Rs 3,500 crore in the three weeks since then.

This becomes clear from an analysis of SEBI’s trading data on FII investments during the relevant period. Between October 18 (the first relevant date of FII data since SEBI’s draft proposals were made public) and November 8 (the latest date for which such data is available), they were net sellers to the tune of Rs 3,505 crore.

In contrast, they had invested Rs 30,525 crore in equity during the three-week period (September 24 to October 17) immediately before that. Indeed, they have been net buyers on every single day during this period.

Opinions divided

But opinion is divided among local market participants with one section suggesting that this is an inevitable outcome of SEBI action which is aimed at overseas investors known for their extremely short-term outlook on investments.

“Many hedge funds operating through P-Notes have not been buying and that part of volume has come down and they have wound up as an opportunity to exit,” said Apurva Shah, Head-Research, Prabhudas Liladher.

“They have to sell as they cannot hedge their positions. So, they limit their exposure in the market,” said Shahina Mukadam, Head-Research, IDBI Capital Market Services Ltd.

There are others who think that the data on FII investments in the last three weeks is nothing more than an evidence of a ‘pause’ in the market action.

“The FIIs aren’t really winding up; it is just that they aren’t as aggressively buying like they used to. There is also talk about reshuffling taking place,” said Vijay L. Bhambwani, an analyst with BSPL India, a financial services firm based here.

He is also optimistic that if the FIIs end up toning down their level of participation , the market might well recapture the lost momentum with the prospect of Gulf money entering the market.

“The mutual funds are targeting Gulf money. There is a lot talk regarding the Shariah compatibility etc… They want to extract money from oil exporting countries”.

P.R. Dilip, a Mumbai-based portfolio manager, said: “Last week we saw a lot of uncertainties like the Credit policy announcement and the US Fed rate cut. We should see how the performance is from the coming weeks, where there will be fresh episode to begin with.”

The restrictions do not appear to have had any significant impact on the derivatives segment, the principal target of SEBI’s regulatory initiative.

‘Open interest’

The ‘open interest’, a measure of FIIs’ outstanding commitments on F&O contracts, is pretty much at the same level on November 8, as it was on October 18. According to the SEBI data, the cumulative value of ‘single stock futures’ contracts (essentially bets on the future value of individual stocks) stood at Rs 38,105 crore as on November 8.

That is, in fact, marginally higher than the value of such contracts at Rs 37,464 crore in the returns submitted to SEBI on October 18, the first date following the release of the draft proposals. The position is not much different in the case of ‘index futures’ (bets on future values of the indices).

But market participants discount any impact on trading volumes in the near term from FIIs in this segment of the market.

“FII investments are around 35 per cent of the current overall market wide open interest,” said Anand Kuchelan, Senior Analyst-Derivatives & Research strategy, PINC, a Mumbai-based stock broking firm.

SEBI has put down regulations which state that FIIs and their sub-accounts cannot issue or renew ODIs with underlying as derivatives with immediate effect and need to wind up existing positions in 18 months.

Also ‘sub-accounts’ of FIIs, which have not applied to be registered as FIIs, will have to wind up their existing investments mobilised through P-notes.

As for FIIs investing through ODIs, those with notional value of such investments outstanding (excluding derivatives) as a percentage of their Assets under Custody (AUC) of less than 40 per cent shall be allowed to issue further ODIs at an incremental rate of 5 per cent of their AUC in India and those with a percentage in excess of 40 per cent of their AUC can invest afresh only to the extent of redemptions from existing investments.