This love-hate relationship with FIIs is clearly overdone

The government and the RBI look at foreign institutional investors (FIIs) as an external capital source and hence place restrictions on their investment in Indian Rupee (INR) assets. Indian institutional and retail investors have a love hate relationship with FII as one way inflows take up asset prices and vice versa. Economists and think tanks have varied opinions with some saying FII are necessary evil and some saying that FII are unnecessary evil. Corporate sector sees FII as a source of capital.

FII are here to make money and FII flows are hot money flows are common remarks made by many. Some say that FIIs have too much of a hold on the economy. India’s independence is threatened by FII. FII can make or break the INR. FII selling of INR bonds worth $7 billion in the May - September 2013 period is seen as the primary reason for the INR to drop over 25% to all time lows of Rs 68.80 to the USD in the May - August 2013 period.

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[caption id=“attachment_677844” align=“alignleft” width=“380”]  FII as an investor class are here to stay. FII will behave as any other investor would. Reuters[/caption]

The FII factor is clearly overdone. FII is not one entity but many different entities, with each entity having a different perspective on investments. In fact, FII are similar to domestic investors that have retail and institutional participants in the markets. The only difference is the class of Hedge Funds that are prevalent globally. However, hedge funds too have their different identities and are definitely not the primary cause for bubbles or depressions in markets globally.

Every investor from a retail individual to an FII invests in markets for positive returns. There is no single investor who invests in markets for negative returns or philanthropic reasons. Hence in this regard, it is clearly foolish to say that FII are here to make money. Does it mean that domestic investors do not invest to make money?

FII can take money out of the country anytime is a common argument put forth by those who do not understand markets. The same argument can extend to domestic investors as well and there is nothing, apart from statutory obligations, that prevents them from taking money out of markets. Statutory obligations actually make investors such as insurance companies, provident funds and trusts and banks vulnerable to poor economic policies of the government.

FII as an investor class are here to stay. FII will behave as any other investor would. A government or a corporate taking care of its stakeholders will be rewarded with higher valuations while unfriendly policies will only bring down valuations. The reward for good policies is applicable to all markets and economies.

The class distinction between domestic and foreign investors is there because of investments in domestic and foreign currency. However, for every other purpose, the behaviour is similar. Domestic investors turn to physical assets like gold when economic policies are financial asset unfriendly while FIIs just sell financial assets and invest elsewhere. If India allowed free movement of capital in and out of the country, domestic investors would just sell INR assets and invest elsewhere if domestic policies hurt investments.

FII should be looked at as a class of investor whose behaviour is no different from any other investor class.

Arjun Parthasarathy is the Editor of www.investorsareidiots.com a web site for investors.