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RBI’s Move to Double Foreign Portfolio Investment Cap
Context:
The Reserve Bank of India (RBI) is set to double the investment cap for individual foreign investors in listed companies from 5% to 10%.
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Key Policy Changes
- Increase in Individual Investment Limits:
- Maximum investment per individual foreign investor in a listed company raised from 5% to 10%.
- Combined holding by all foreign individual investors increased from 10% to 24%.
- Expansion of Eligible Investors:
- Previously, only NRIs and OCIs could avail of special investment provisions.
- The new policy extends these provisions to all foreign individual investors under Foreign Exchange Management Act (FEMA).
- Regulatory Discussions and Finalisation:
- The plan is in the final stages of discussion between the RBI, SEBI, and the government.
- The RBI has urged for early implementation due to concerns over disrupted capital inflows.
- The combined foreign individual investor holding limit is also set to increase from 10% to 24%.
- The move aims to boost capital inflows amid heavy foreign outflows due to poor earnings, high valuations, and the prospects of US tariffs.
- This policy change extends benefits that were previously limited to Non-Resident Indians (NRIs) and Overseas Citizens of India (OCIs) to all foreign investors.
Rationale Behind the Move
- Countering Foreign Outflows: Since September 2024, foreign portfolio investors (FPIs) have pulled out over $28 billion from Indian stocks due to market uncertainties.
- Enhancing Foreign Investment: By relaxing investment caps, India aims to attract fresh capital inflows into domestic markets.
- Boosting Market Confidence: A higher investment cap may reduce volatility and increase liquidity, enhancing overall market stability.
- Aligning with Global Practices: Increasing the cap brings India closer to international investment norms, making it a more attractive destination for foreign investors.
Challenges and Concerns
- Monitoring Compliance:
- The Securities and Exchange Board of India (SEBI) has flagged potential risks in tracking foreign investments effectively.
- Difficulty in ensuring that a single foreign investor (along with associates) does not exceed takeover thresholds.
- Risk of Takeover Rule Violations:
- Indian regulations mandate an investor acquiring more than 25% of a company to make an open offer to retail investors.
- A foreign investor with 10% ownership along with associates could exceed 34%, leading to unintended hostile takeovers.
- Regulatory Arbitrage:
- Investors may exploit loopholes in investment rules to circumvent regulatory restrictions.
- The government and RBI are working to rationalise the rules to prevent misuse.
Implications of the Policy Change
- Economic Growth and Market Expansion:
- Higher foreign investment can stimulate economic growth by increasing market depth and financing opportunities.
- It may enhance domestic corporate governance standards due to greater foreign participation.
- Volatility and Stability Concerns:
- Greater foreign exposure could increase market volatility, making Indian markets more susceptible to global economic shifts.
- The government may need to implement safeguards to manage sudden outflows.
- Impact on Domestic Investors:
- While more foreign investments may boost stock prices, domestic investors might face higher competition for equity stakes.
- Retail investors may benefit from price appreciation but could also experience ownership dilution.
Way Forward
- Strengthening Monitoring Mechanisms: SEBI should implement real-time monitoring of foreign investments to track compliance effectively.
- Harmonising Investment Regulations: Aligning investment caps with international best practices while ensuring regulatory safeguards.
- Balancing Foreign and Domestic Interests: The policy should strike a balance between attracting foreign capital and protecting domestic market stability.
- Ensuring Transparency and Investor Confidence: Clear communication from regulators can reduce uncertainty and boost investor confidence in the Indian stock market.
