Huge foreign inflows in September that have been pushing stock indices and the currency to new highs have alarmed some analysts, who are worried about the nature and source of these flows.
According to Securities and Exchange Board of India (Sebi) figures, foreign institutional investors (FIIs) have bought shares worth Rs 84,000 crore in the Indian markets this year. Roughly over a quarter of these flows, or Rs 21,500 crore, came in the last one month alone.
“We have no credible explanation for the September rush yet, but the highlight (is) that P-notes (participatory notes) were a big driver of inflows in July and August. We suspect the same may be true for September,” Kotak Institutional Equities analysts Sanjeev Prasad and Saifullah Rais, said.
P-notes are off-shore derivative instruments issued by registered FIIs to foreign investors who want to invest in Indian equities without such registration. Sebi data showed that as of August, the total value of P-notes stood at Rs 1.41 lakh crore, or 12.7 per cent of total FII assets of Rs 11.13 lakh crore. The share of P-notes was higher at 15 per cent of FII assets at the end of August 2011.
In August, French brokerage BNP Paribas had also expressed concerns about the nature of foreign flows. In a report titled ‘Solving the FII Riddle’, BNP Paribas said: “Almost half the funds have come from ‘other’ or unexplained sources – comprising sovereign wealth funds, sector funds and hedge funds. This classification has lent credence to the oft-repeated conspiracy theory that a lot of FII flows are Indian money disguised as FII money. Such a large quantum of money coming into the country from a non-regular source of money is adding fuel to the fire.”
India’s share of FIIs in Asia has been 62 per cent, which is much higher than the historical norm of 25 per cent, reflecting their preference for India, the report said.
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Analysing the investment by FIIs between January and August, Prasad and Rais said market participants had been pondering about the magnitude and nature of FII inflows and they could explain only about 60 per cent of the flows up to August: “We can account for around $7 billion of the FII inflows out of the reported $12 billion of FII cash inflows.”
They broke down $7 billion as follows: “(1) FDI-to-FII block deals in several stocks ($2.5 billion or so), (2) exchange-traded fund flows of around $1.2 billion, (3) sovereign funds ($2 billion or so) and (4) cash-futures arbitrage.”
According to Sebi data, the assets under custody under P-notes increased Rs 11,900 crore between June and August versus an increase of Rs 23,500 crore for all FIIs.
While suspicion remains, conclusive evidence is elusive. Ritesh Parikh, vice-president, market strategy and equities, Motilal Oswal Securities, said it was easy to question the source of these flows, but difficult to establish one way or the other.
“The huge quantum of flows in the last few weeks is a clear indication that allocations to Indian equities by foreign investors has increased. This is due to the flurry of reforms and attractive valuations.”
The head of institutional equities arm of a local brokerage said: “In India, only registered FIIs are allowed to invest. If so, how can you say the source is suspect.”