Foreign institutional investment flows (FII) in Indian companies.
In the context of the balance of payments crisis of 1991, a comprehensive structured and financial sector reform process was initiated in India as recommended by committee on the financial system (Chairman M. Narasimham, 1991) which became the starting point for gradual deregulation of financial sector and development and integration of various segments of financial markets. As a result of this, Indian stock market has witnessed metamorphic changes and a transition-from a "dull" to a highly "buoyant" stock market. Improved market surveillance system, trading mechanism and introduction of new financial instruments have made it a center of attraction for the international investors.
Foreign investment--both portfolio and direct varieties--can supplement domestic savings and augment domestic investment without increasing the foreign debt of the country. Such investment constitutes non-debt creating financing instruments for the current account deficits in the external balance of payments. Capital inflows into the equity market give higher stock prices, lower cost of equity capital, and encourage investment by firms. Foreign investors often help spur domestic reforms aimed at improving the market design of the securities markets, and help strengthen corporate governance.
Indian stock market is getting increasingly integrated with the rest of the world. Indian companies have been permitted to raise resources from abroad through issue of ADR's, (American Depository Receipts) FCCBs (Foreign Currency Convertible Bonds) and ECB's (External Commercial Borrowings). Further, foreign companies are allowed to tap the domestic stock markets. NRI's (Non Resident Indians) and OCB's (Overseas Corporate Bodies) are allowed to invest in Indian companies. FIIs (Foreign Institutional Investors) have been permitted to invest in all types of securities including govt. securities. The investments by FIIs enjoy full capital account convertibility. They can invest in a company under portfolio investment route up to 24% of the paid up capital of the company. This can be increased up to the sectoral cap/ statutory ceiling, as applicable. The Indian stock market has witnessed unprecedented buoyancy in recent years. Strong macro-economic fundamental, positive investment climate, sound business outlook and continued foreign institutional investment supplemented by the active participation of domestic financial institutions have driven the bullish trend. Benevolent inflation rate, record level of foreign exchange reserves and fiscal consolidation by the Government made the Indian securities market more attractive for the overseas investors. Moreover, the recent initiatives by the Government for developing the corporate debt market, increasing the ceiling on investment by FIIs in the domestic debt market and move towards convertibility of rupee in the capital account are the positive factors, which emboldened the market sentiment. Indian stock market has experienced a steady growth both in terms of registered FIIs (1110 as on October 5,2007) and their volume of investment (US$35.93 billion at the end march 2005-06). With 23 organized stock exchanges, 1758865 Cr. annual market capitalization (at the end march 2006) and 443175 US $ million annual turnover (at the end march 2006) and more than 2 crore household investors, Indian stock market is believed to be dominated by Foreign Institutional Investors.
The Indian financial market was opened to the foreign institutional investors in 1992 to widen and broaden the Indian capital market. Since then, the net investment by FIIs in India has been positive every year except in 1998-99 (Table-1). During the last three years, there has been a phenomenal increase in the portfolio investment by FIIs in the Indian market. The gross purchases of debt and equity together by FIIs increased by 59.9 per cent to Rs.3,46,978 crore in 2005-06 from Rs.2,16,953 crore in 2004-05. The gross sales by FIIs also rose by 78.6 per cent to Rs.3,05,512 crore from Rs. 1,71,072 crore during the same period. However, the net investment by FIIs in 2005-06 declined by 9.6 per cent to Rs.41,467 crore in 2005-06 from Rs.45,881 crore in 2004-05 mainly due to large net outflows from the debt segment. The cumulative net investment by FIIs at acquisition cost, which was US$15.8 billion at the end of March 2003, rose to US$ 45.3 billion at the end of March 2006. Several factors are responsible for increasing confidence of FIIs on the Indian stock market which include, inter alia, strong macro-economic fundamentals of the economy, transparent regulatory system, abolition of long-term capital gains tax and encouraging corporate results. Reflecting the congenial investment climate, the total number of FIIs registered with SEBI increased to 993 during 2005-06 compared to 685 a year ago, an increase of 308 over the year. A distinctive feature of the profile of the newly registered FIIs relates to increase in registration from the unconventional countries such as Malaysia, Australia, Saudi Arabia, Trinidad and Tobago, Denmark, Italy, Belgium, Canada, Sweden, and Ireland etc (Table-3).
The FII investment in equity increased significantly since 2003-04. During 2005-06, FIIs increased their net investment in equities. The net FII investment in equity during 2005-06 was Rs.48,801 crore, the highest ever in a single year. Buoyancy in the markets was sustained in 2005-06 on account of surge in net investment by the institutional investors with FIIs playing a major role. Month-wise, FII investment was negative in the months of April, May and October 2005. However, during the remaining months of the financial year, there was large net equity investment by FIIs, particularly in the second half of 2005-06, which drove the benchmark indices to surpass the earlier record highs on several occasions. The net FII investment in December 2005 was the highest for 2005-06, followed by July 2005 and February 2000.
India has emerged as an important destination for global investment. This is reflected in the no. of Foreign Institutional Investors (FIIs) registered with Sebi. All FIIs registered with market watchdog Sebi have increased from 10 in Jan. 1993 to 1110 on October 5, 2007 (Table-2).
The diversity of FIIs has been increasing with the number of registered FIIs in India steadily rising over the years. The names of some prominent FIIs registered during 2005-06 are: California Public Employees' Retirement System (CalPERS), United Nations for and on behalf of the United Nations Joint Staff Pension Fund, Public School Retirement System of Missouri, Commonwealth of Massachusetts Pension Reserves Investment Trust, Treasurer of the State North Carolina Equity Investment Fund Pooled Trust, the Growth Fund of America, and AIM Funds Management Inc.
Since FIIs investing heavily in Indian stock market, there is a need to understand the impact of FIIs investment on the Indian companies by analyzing the change in their shareholding pattern. The paper is organized as follows: in section 2, brief review of literature is presented, section 3 sets out the objectives of the study, Section 4 describes our data, sources and methodology, Empirical results are explained in Section 5 and Section 6 concludes the paper.
Review of Literature
Bhanumurthy and Rai (2003) by using monthly data from January 1994- November 2002, they examine the determinants of FIIs in Indian context by analyzing the effect of return, risk and inflation in domestic and foreign economy. Domestic and foreign returns are calculated using Bse sensex for Indian stock prices and S$P 500 for US stock prices. To capture risk, monthly standard deviations are computed from daily returns on Bse sensex and S$P 500. He uses ex-ante risk rather than realized risk, because realized risk represents a combination of ex-ante risk and unexpected risk. Whole sale price index is used to calculate year on year inflation in India and Producer Price Index is used to calculate inflation in US. He finds that FII inflows depend on stock market returns, inflation rate (both domestic and foreign) and Ex-ente risk. Brennan and Cao (1997) move from stocks to flows, accepting this foreign local asymmetry. They construct a model in which purchases of foreign equities are an increasing function of the return on the foreign equity market index. A public signal moves investors to revise their priors and hence change their portfolios; the less well informed foreign investors revise the means of their distributions more than do the better informed locals, so price moves simultaneously in the same direction as foreign purchases. The story is appealing, but their empirical support for it is weak: 'our model is able to explain only a small proportion of the variance of international equity portfolio flows'. Using a monthly data-set for the period May 1993 to December 1999, Chakrabarti (2001) finds that the FII net inflows were not only correlated with the return in Indian equity market but was more likely the effect than the cause of the Indian equity market return. FIIs do not appear to be at an informational disadvantage compared to domestic investors in the Indian markets. Furthermore, the Asian crisis marked a regime shift. In the post-Asian crisis period, the return in the Indian equity market turned out to be the sole driver of the FII inflow, while for the pre-Asian crisis period; other covariates reflecting return in other competing markets were also correlated with FII net inflow. Batra (2003) uses daily data on FII equity purchases and sales and equity returns between January 2000- December 2002 on the BSE sensex and monthly data between January 1994 to December 2002. He examines three issues, firstly if trading by FIIs reveals any trends of positive feed back trading secondly, if there is evidence of herding by the FIIs and lastly the destabilizing impact, if any, of the FII trading strategies on stock prices in India. To test positive feed back strategy, he predicts a relation between the past performance of the market (as indicated by value of market index) and the current FII investment. Herding is calculated by following the measure proposed by Lakonishok, Shleifer and Vishny (LSV, 1992) and Wermers (1998). He finds strong evidence of positive feedback strategy followed by FIIs at the aggregate level on a daily basis. However, there is no evidence of positive feedback trading on a monthly basis. There are almost no dynamics between long horizon returns and net equity purchases. He indicates that foreign investors have a tendency to herd on the Indian equity market even though they all may not do it on the same day. In times of pressure in the stock market on account of a financial crisis in the region there is excessive selling side herding even through the extent of herding on the average and on either size of the market during a crisis may be lower than that in the immediate preceding period. Bonser-Neal et al., (2002) analyze the foreign trading behavior on the Jakarta stock exchange (Indonesia) between 1995 and 2000.They detect herding and positive feedback trading by foreign investors, but find no evidence to indicate that such trading behavior by foreign investors destabilized the market prices during the Asian crisis. Griffin et al., (2002) use a theoretical model and empirical analysis to show that global stock return performance is an important factor in understanding equity flows.
Dornbusch and Park (1995) argue that foreign investors pursue positive feedback trading strategies that make stocks overreact to changes in fundamentals.
Following are the main objectives of the present study:
(i) To analyze the impact of FII investment on the shareholding pattern of Bse sensex companies.
(ii) To study the magnitude of change in the share of various shareholders for the entire study period.
Data and Methodology
In order to analyze the impact of FII flows on Indian companies, this study has taken up the 30 companies included in Bse sensex which has a market capitalization of Rs. 1758865 Cr. at the end of 2006. Quarterly shareholding pattern information of Bse sensex companies is taken from CMIE data base. We have looked at shareholding pattern of these companies from quarter Dec 2001 to Dec 2006. For each quarter percentage of share held by each category of shareholder as well as percentage change for the entire reference period is calculated.
It can be seen that the shareholding pattern of sensex companies have gone through a radical changed since Dec 2003-04 (Table-4). The percentage of shares held by each of the categories of shareholders has registered a transformation. While the share of promoters and FIIs are increasing considerably the share of MFs/UTI, Banks, FIs and Insurance companies and corporate bodies and individuals are on the declining spree. The FIIs have become the second largest shareholder in these companies after the promoters since 2003 (Table-4). Up to Dec 2002 domestic financial institutions (DFIs) were the second largest shareholder among the non promoters shareholder group (Table-5) .In Dec 2001 individuals had been second largest shareholders slipped to third position in Dec. 2006. The major decline is being observed in the shareholding of corporate bodies in non promoters-non institutions category. Their share recorded 60.73% decline over the period Dec 2001 to Dec 2006. Except the share of FIIs the share of all other participants turned down in non promoters' category during the study period. However, the share of DFIs has increased marginally from 12.98% in Dec 2005 to 13.89% in Dec. 2006 Table-5).
In addition to FIIs, individuals and corporate bodies have also invested in the sensex companies. While the share of FIIs has augmented by 33.84% the share of individuals and corporate bodies revealed record decline of 31.45% and 60.73% respectively. However, from March 2006 to Dec. 2006 share of both FIIs and corporate bodies decline by 4.33% and 7.55% respectively (Table-6).
Last one year quarter- end analysis gives marginally optimistic results for domestic participants. Whereas the share of FIIs and corporate bodies have come down by 1.88% and 4.03 % respectively MFs ,banks and insurance co's share and individuals share amplified by 19.79%, 1.55% and 1.19% respectively (Table-7). It appears that more and more people are start preferring mutual funds (MFs) as their investment vehicle. This change in investors' behavior is induced by evolution of a regulatory framework for MFs, tax concessions offered by govt. and preference of investors for passive investing.
When we come across the frequency distribution of FII shareholding in these 30 companies (Table-8), we find that FIIs have increased their stake in these companies particularly after 2003. Since 2003 one company viz. Housing Development Finance Corporation Ltd. has more than 60% FII stake. Further, in as many as 12 companies the shares held by FIIs are more than 10% of the total outstanding shares of these companies. Majority of the companies have FII stake in the range of 10%-20% respectively.
The foreign portfolio flows have become the important source for strengthening and improving the functioning of the domestic capital markets. There is a general understanding that Indian stock market is primarily driven by FIIs, we find that the FII flows in the Bse sensex companies is about 34% of the total outstanding share, which is not significant as compared to the size of our capital market. The figures at the macro level also suggest that the relative share of foreign portfolio flows is marginal. According to the no. of transactions Bse occupied 6th position in 2006. In terms of listed companies Bse ranks first in the world. India has a turnover ratio of 94.2% which is quite comparable to the other developed markets like the U.S.A. and U.K. which has turnover ratios of 129.1% and 141.9% respectively. According to Standard and Poor's Fact book India ranked 17th in terms of market capitalization and 18th in terms of total value traded in stock exchanges and 20th in terms of turnover ratio as on Dec. 2005. Further, share of domestic financial institutions in these companies is declining since 2003 (except 2005-06) while FIIs are occupying significant place. However, last one year quarter- end analysis gives somewhat optimistic results for DFI. We must take appropriate steps to improve investors' awareness in order to expand equity cult among the small savers. Recent trend of increased investors' preference to participate in equity markets through mutual fund conduit would enhance institutional investment in equity markets. The institutional and regulatory architecture should facilitate this further as this would counterbalance and cushion the impact of the swings in the stock prices.
Further, majority of the companies have FII stake in the range of 10-20% these figures suggest that relative share of FIIs in Indian companies is marginal. The govt. should take concomitant policy efforts in terms of improving financial regulation and corporate governance to encourage individuals as well as institutional investment.
Bhanumurthy and Rai (2003), "Determinants of Foreign Institutional Investment in India; The role of Risk Return and Inflation", Development Planning centre, Institute of Economic growth.
Brennan, Michael J. and H. Henry Cao (1997), "International Portfolio Investment Flows", Journal of Finance", Vol. 52, (5), December, pp.1851-1880.
Batra Amita (2003), "The Dynamics of Foreign Portfolio Inflows and Equity Retuns in India", ICRIECR Working Paper 109.
Bonser-Neal, C, Steven L. Jones, David Linman and Robert Neal (2002), "Herding, Feedback Trading and Foreign Investors", Indiana University.
Chakrabarti, Rajesh (2001), "FII flows to India: Nature and Causes", Money and Finance, Vol.2, (7).
Dornbusch, R. and Y.C.Park (1995), "Financial Integration in a Second Best World: Are We Sure About Our Classical Prejudices", in R.Dornbusch and Y.C. Park, eds., Financial Opening: Policy Lessons for Korea, Korea Institute of Finance, Seoul, Korea.
Griffin, John M., F. Nardari and Rene M.Stulz (2002), "Daily Cross Border Equity Flows: Pushed or Pulled?" NBER Working Paper 9000.
Lakonishok, Josef, Andrei Shleifer, and Robert W. Vishny, (LSV 1992), "The Impact of Institutional Trading on Stock Prices", Journal of Financial Economics Vol. 32, pp. 23-44.
Wermers, Russ, (1998), "Mutual Fund Herding and the Impact on Stock Prices", Journal of Finance Vol. 2, pp.581-622.
Reserve Bank of India, Report on Currency and Finance, various issues.
Reserve Bank of India, Annual Report, various issues. SEBI website.
Neeta Tripathi *
* Dyal Singh College, University of Delhi, New Delhi, India
* E-mail: email@example.com
Table 1: FII Investment in India Year Gross purchase Gross sale Net investment (Rs. Crore) (Rs. Crore) (Rs. Crore) 1992-93 17 4 13 1993-94 5593 466 5126 1994-95 7631 2835 4796 1995-96 9694 2752 6942 1996-97 15554 6979 8574 1997-98 18695 12737 5957 1998-99 16115 17699 -1584 1999-2000 56856 46734 10122 2000-01 74051 64116 9934 2001-02 49920 41165 8755 2002-03 47061 44373 2689 2003-04 144858 99094 45765 2004-05 216953 171072 45881 2005-06 346978 305512 41467 Year Net investment Cumulative net (US $ mn.) investment (US $ mn.) 1992-93 4 4 1993-94 1634 1638 1994-95 1528 3167 1995-96 2036 5202 1996-97 2432 7634 1997-98 1650 9284 1998-99 -386 8898 1999-2000 2339 11237 2000-01 2159 13396 2001-02 1846 15242 2002-03 562 15805 2003-04 9950 25755 2004-05 10172 35927 2005-06 9332 45259 Source: Sebi Table 2: Registration of FIIs. Financial year Total registered at the end of the year 1992-93 0 1993-94 3 1994-95 156 1995-96 353 1996-97 439 1997-98 496 1998-99 450 1999-2000 506 2000-01 528 2001-02 490 2002-03 502 2003-04 540 2004-05 685 2005-06 993 As on October 5 2007 1110 Source: Sebi Table 3: Country- wise FII Registered with SEBI as on March 31, 2006 Country FIIs USA 342 United Kingdom 148 Luxembourg 84 Singapore 47 Hong Kong 30 Canada 26 Australia 23 Ireland 23 Netherlands 23 Mauritius 22 Switzerland 19 France 17 Denmark 11 others 87 Source: Sebi Table 4: Shareholding Pattern of Bse Sensex Companies (%) Category Dec 01 Dec 02 Dec 03 Promoters holding 29.09 28.36 31.75 MF/UTI 7.43 6.43 4.82 Banks.FIs. insurance co's 12.76 13.89 12.27 FIIs 17.17 16.06 21.24 Corporate bodies 8.48 7.5 5.30 Individuals 17.36 16.27 13.50 Category Dec 04 Dec 05 Dec 06 % change Promoters holding 37.02 38.17 38.67 32.94 MF/UTI 4.09 3.89 4.66 -37.28 Banks.FIs. insurance co's 9.85 9.09 9.23 -27.66 FIIs 22.28 23.42 22.98 33.84 Corporate bodies 4.42 3.47 3.33 -60.73 Individuals 12.35 11.76 11.90 -31.45 Table 5: Comparison of shares held by Domestic Financial Institutional Investors (DFIs) and FIIs Category Dec 01 Dec 02 Dec 03 DFIs+ MFs * 20.19 20.32 17.09 FIIs * 17.17 16.06 21.24 Category Dec 04 Dec 05 Dec 06 % change DFIs+ MFs * 13.94 12.98 13.89 33.84 FIIs * 22.28 23.42 22.98 -31.20 * shares shown as a percentage of the total outstanding shares Table 6: Shares held by Foreign Investors (%) * Category March 06 June 06 Sept. 06 Dec 06 % change FIIs 24.02 23.13 23.56 22.98 -4.33 CBs 3.60 3.11 3.23 3.33 -7.5 Total 27.62 26.24 26.79 26.31 * as a percentage of the total outstanding shares. Table 7: Shares held by various categories of shareholders (%) * Category Dec 05 Dec 06 % change Promoters holding 38.17 38.67 1.31 MF/UTI 3.89 4.66 19.79 Banks.FIs. Insurance Co's 9.09 9.23 1.55 FIIs 23.42 22.98 -1.88 Corporate bodies 3.47 3.33 -4.03 Individuals 11.76 11.90 1.19 * as a percentage of total outstanding shares. Table 8: Frequency distribution of FII shareholding in Bse sensex companies Class Interval Dec 01 Dec 02 Dec 03 Dec 04 Dec 05 Dec 06 0-10 11 12 8 5 5 4 10-20 12 12 11 11 11 12 20-30 4 2 8 10 7 6 30-40 2 2 0 0 4 5 40-50 1 1 2 2 1 2 50-60 0 1 1 1 1 0 60-70 0 0 1 1 1 1
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|Publication:||Asia-Pacific Business Review|
|Date:||Jan 1, 2008|
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