Monday’s conference call with foreign institutional investors (FIIs) by Securities & Exchange Board of India proved very useful in clarifying the direction in which the regulator wants to take the stock markets. The sobering of fluctuations in the market immediately thereafter attests to the importance the conference call generated among market participants. The watchdog has held similar meetings with FIIs earlier, but in the wake of last week?s volatility, the importance of this call cannot be overemphasised. Sebi chairman M Damodaran has made it clear that participatory notes (PNs) are here to stay until every entity that wants to enter the Indian market is able to do so without needing to resort to them. This is an important clarification as the timing of the circular issued on October 16 by Sebi gave the initial impression that the ban on PNs in the derivatives market was a precursor to further steps to phase them out completely. In that backdrop, the call was significant. This is going to be probably the largest ever rewrite of the rules for entry into the Indian markets by foreign investors. So, it was necessary that the regulator and FIIs unreservedly understood each other?s point of view before the actual boundaries of regulation were drawn up.
Market participants, especially FIIs, had reason to be surprised by Damodaran?s assurances with regard to PNs. The Reserve Bank of India has made clear for a long time its disquiet over the role of the PNs in the domestic market. But both the finance ministry and Sebi professed different opinions, made explicit in the Ashok Lahiri report on FIIs. So, even while government entities spoke about the impact of the inflow of dollars on the rupee, the stock markets had interpreted this to mean quantitative capital controls on the real economy. Admittedly, the stock markets had also hit the roof, but that was more a question of valuation and the risk appetite of investors, largely high net-worth ones. In this context, it may be the right time for Sebi to rework the definition of FIIs itself. The definition is almost unique to India and creates a favoured class of investors, especially for those who offer the tax-free PN route to their clients. Why not do away with the distinction between domestic and foreign participants altogether?
