Gaining a footholdin India
Fuelled by strong economic growth and empowered by the introduction of market friendly reforms, global investors have been increasingly embracing India over the last decade. However, our network manager clients believe India’s market reforms are still a work in progress.
A country on a roll
Foreign portfolio investors (FPIs) are scrambling to access India.
Amid disappointing growth elsewhere, India is something of an outlier, with its GDP projected to soar by 6.3% in 20241, thanks to robust domestic demand, strong public infrastructure investment and a strengthening financial sector.2
Streamlined market access rules (i.e. consolidating the number FPI categories; easier know-your-client [KYC] rules allowing e-signatures [albeit with some restrictions] during the FPI registration process, etc.) have also helped stimulate FPI flows into India.
The volumes here speak for themselves. We have seen USD51 billion of foreign inflows enter into India over the last five years, USD28.7 billion of which was in 2023 – the highest in five years3. Today, there are around 11,000 FPIs in India, while FPI assets under custody have more than doubled since 2014 to reach USD720 billion4. These inflows are only going to trend upwards once India is added to J.P. Morgan’s Government Bond Index-Emerging Markets.
Nonetheless, our network manager clients believe that India has a lot more to offer.
1 IMF – October 2023 – Navigating Global Divergences2 World Bank – October 3, 2023 – India’s growth to remain resilient despite global challenges3 https://www.fpi.nsdl.co.in/web/Reports/Yearwise.aspx?RptType=64 NSDL – 31 October 2023
Unfinished business
Although accessing India is a lot easier today than what it was historically, it is still far from frictionless.
Numerous clients report that opening up accounts in the country can be an intricate process, even though the Securities and Exchange Board of India (SEBI) has simplified some of the more onerous pre-investment requirements for FPIs.
This was echoed in a survey conducted during the TNF Asia Meeting held in Mumbai, which revealed that while 90% of people believe that accessing India has become much simpler, a further 58% wanted improvements to be made to both the FPI registration and KYC processes.
During Covid, SEBI allowed for e-signatures to be used in the registration process, which was a huge improvement, but the documentation provisions are still substantial. While it is true that FPIs can register with a Designated Depository Participant (DDP, i.e. a custodian) using scanned copies of their application forms, accounts cannot be activated until the documents have been physically signed.
While KYC and account opening process is completely digitised for retail investors and they are not required to sign any document physically, challenges in digital execution of document by FPIs remain and relaxation to this will require regulation changes outside the purview of SEBI’s domain.
Meanwhile last year, SEBI announced it would tighten its rules on beneficial ownership by imposing added disclosure requirements on certain FPIs. Failure to comply here could result in FPIs having to liquidate their Indian holdings.
Other challenges were also highlighted by our network manager clients.
Repatriation is an area in need of improvement. Today, you need to have a tax certificate while all outstanding taxes must be paid for before repatriation can even happen. Some of the tax rules can also be complicated, and this often requires a lot of input from consultants.
Although regulatory changes aimed at improving market access can only be described as a good thing, some network managers complain that the deadlines in India can be rather tight, creating problems for foreign investors and their custodians alike.
Leveraging the services of a local provider with deep expertise of the domestic market is therefore critical if FPIs are to navigate some of these pitfalls.
The clock goes back on settlements
With T+1 firmly embedded in India and trade fail rates now at normal levels, SEBI5 has begun market consultations and preparations with participants and custodians on the introduction of T+0 and instantaneous settlement cycle in two phases.
With a view to enhance operational efficiency and investor protection - especially for retail investors - and based on the recommendation of a working group comprising of Stock Exchanges, Depositories and Clearing Corporations (CCs), an optional T+0 settlement cycle was expected to be introduced in the first phase in March-April 2024. In a latest development, effective 28 March 2024, SEBI introduced a BETA version of T+0 on 25 stocks, contained to a limited set of brokers, of which FPIs are excluded from transacting in these on a T+0 settlement basis. This sits alongside the existing T+1 settlement cycle for all market participants, followed by an optional instantaneous settlement in the second phase, targeting November 2024, whereby FPI custodian clients have the option to participate in.
The benefits of T+0/instant settlement are not too dissimilar from T+1. Shorter settlements would result in less settlement and counterparty risk between financial institutions, and flexibility in terms of faster payouts.
But, we believe there are potential limitations too.
For instance, operating two separate settlement cycles – one mandatory and one voluntary simultaneously - might bifurcate the market, causing fragmentation. The move to T+0/instant settlements could also create added FX challenges for foreign investors based in different time-zones.
To mitigate these risks, FPIs will need to engage with providers who can support them with their various FX and funding requirements, in addition to the operation support against the market operating model for these shortened cycles.
5 https://www.sebi.gov.in/reports-and-statistics/reports/dec-2023/consultation-paper-on-introduction-of-optional-t-0-and-optional-instant-settlement-of-trades-in-addition-to-t-1-settlement-cycle-in-indian-securities-markets-_80204.html
A market full of opportunity and complexity
Investment flows into India have been solid, but accessing the market can be a bit of a challenge for FPIs. The proposed changes to the settlement cycle in 2024/5 may compound these challenges even further.
The importance of working with strong local providers in India therefore should not be underestimated.
This article is based on themes discussed during a panel at The Network Forum Asia Meeting 2023.
