The discussion paper on offshore derivative instruments (ODIs) released by the SEBI appears to have received a positive response from market analysts.
Many view the proposal as a long pending structural change that will improve the quality of inflows into the market.
“Entry through Participatory Notes is similar to benami holding. Just as our corporate law does not allow such transactions, it is a good move for SEBI to propose this partial curb,” says Mr Sudip Bandyopadhyay, Director & CEO, Reliance Money.
Participatory notes (P-Notes) are financial instruments that aid overseas investment in domestic securities, without registering with SEBI.
On the proposal
Mr Rajagopal, Chief Investment Officer, DBS Chola Mutual Fund, says, “Such a move will help us know the identity of the ultimate beneficiary of the market,” adding that that this will help to know who exactly the short-term investors in the market are.
The proposal, if implemented, is not expected to affect liquidity in the long-term. In fact, if SEBI manages to fast-track the procedure for FII registration, we may see more overseas investors switching to the FII mode from Participatory Notes.
“FII registration under current procedure can take as long as 4-6 months, during which these investors may lose out on the market rally,” says Mr A. Balasubramanian, Chief Investment Officer, Birla Sun Life Mutual Fund.
Mr Suresh Babu, Director and Head of Securities, Spark Capital, feels that while there may be a section of investors who wish to keep their identity secret by investing through P-Notes, a few serious investors too presently use Participatory Notes as it is operationally more convenient.
SEBI’s indication on simplifying FII registration process could therefore move such investors the FII way.
The decision to curb issuance of P-Ns with derivatives as the underlying security may help stem speculative activity.
In the near-term, some feel it could affect turnover in the derivatives segment.
Volumes
“Turnover in derivatives may see reduction, this might lead to an increase in cash market volumes,” says Mr Manish Sonthalia, Vice-President, Equity Strategy, Motilal Oswal Securities
Mr Rajagopal also shares this view. However, given the magnitude of the positions to be unwound he feels eighteen months may also seem too short a time to such investors, which could lead to increased volatility in the derivatives segment.
The unanimous reaction was that capital flows would continue unabated, as US investors increase their exposure to non-dollar assets and find India a compelling story.
“Volumes will eventually catch up,” says Mr Suresh Babu. According to him, earlier regulatory changes such as the abolition of the Badla system, which was effected overnight, and the move from weekly settlement to T+2, initially saw volumes dry up. But fundamentals will draw long-term investors into the market.
Mr Shriram Iyer, Head of Research, Edelweiss, believes that investors may, however, have to be prepared for some consolidation. As liquidity is likely to take a breather following the move, he believes that it may be safe to assume that the markets may not run up as aggressively as it has recently.
