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Tracking FII rationale for investing in India with inflation in Line

Tracking FII rationale for investing in India with inflation in Line

A Working Paper


Bikramaditya Ghosh


Foreign Institutional Investors or FIIs are generally believed to be as the principal movers and shakers in the Indian capital market. They mostly shift between equity and debt depending on certain parameters.

Traditionally it has been quoted that FII investments are solely dependent on CPI as well as on WPI, and they are quite sensitive to the change in that. FIIs are generally looking out for an economic safe heaven to park their money for a relatively shorter time horizon. This study investigates the truth behind that popular belief and regularly used statements and notions in any common financial discussions.

Newspaper Reports

Mint on February reports that[1]foreign institutional investors (FIIs) have been net buyers of Indian debt on all days in January, except on 8 January when they sold $167.25 million, SEBI data showed. FIIs have been net buyers of Indian debt for nine consecutive months and the $2 billion bought so far in January is highest since October 2014.”
Business Line quotes as on February 2011, “FIIs have pulled out more than $1.2 billion (around Rs. 5,800 Crore) so far this year, pushing the Sensex below the 18,000 mark in intraday trade on Tuesday. Since January, the benchmark index has fallen 13 per cent from a high of 20,664.”

Understanding FII

Foreign Institutional Investor (FII) means an institution established or incorporated outside India which proposes to make investment in securities in India. They are registered as FIIs in accordance with Section 2 (f) of the SEBI (FII) Regulations 1995. FIIs are allowed to subscribe to new securities or trade in already issued securities. This is just one form of foreign investments in India, as may be seen here.[2] However, FII as a category does not exist now. It was decided to create a new investor class called “Foreign Portfolio Investor” (FPI) by merging the existing three investor classes viz. FIIs, Sub Accounts and Qualified Foreign Investors. Accordingly, SEBI (Foreign Portfolio Investors) Regulations, 2014 were notified on January 07, 2014 followed by certain other enabling notifications by Ministry of finance and RBI. In order to ensure the seamless transition from FII regime to FPI regime, it was decided to commence the FPI regime with effect from June 1, 2014 so that the requisites systems and procedures are in place before migration to the new FPI regime.[3] However the data reporting has not much different, as the constituents are mostly the same.

Work & Interpretation

Dataset under consideration for this study is ranging from January 2005 to January 2015 (Across 732 data points); it has been observed that Net purchase in Equity Vis a vis net purchase in Debt is a having a moderate coefficient of correlation of 0.25. This clearly signifies that money coming to both the segments is not interdependent and on the contrary to popular belief it is actually coming from two distinctly secluded baskets of funds. CPI MOM has been in consideration for the entire duration from January 2005 to January 2015. Total data sets are 853 including CPI MOM. Logistic OLS has been performed on the data set with 95% confidence level for a better accuracy of the result.
Interestingly it has been observed that both equity net purchase and Debt net purchase are quite loosely correlated with CPI.
Occurrence of following CPI in that decade long study as far as the net purchase in equities are concerned shows a dramatic results. It reveals that only 26% times FIIs will follow the CPI cue for their net purchase in equities. And only 0.1% time the significance is substantial to measure. The situation looks a little better when debt purchase and sales are in consideration. Occurrence of following CPI in that decade long study as far as the net purchase in debt reveals that 82.1% times FIIs will follow the CPI cue in this regard. And only 1.51% time the significance is substantial to measure.


So, in a plausible way we can conclude that for all Debt purchases (net) over past one decade in India FIIs have considered CPI for about 82 times out of every 100 times; however for the similar decision in equities they have considered CPI only for 26 times out of every 100 times.. However the impact has not been quite
significant. This means that the purchase decision has soon been followed by the sales decision. So, though the FIIs have followed the rational of CPI in Indian market for past decade, specially buying Bonds; their time horizon of holding on to their bond portfolio has really been on the shorter side. This indicates that they have noticed better arbitrage opportunities elsewhere. According to some of the recent studies it has been noted that FIIs do depend on the economic indicators such as CPI, when investing in Debt & money market securities. This study echoes the same result, in a quantified manner.
This study thus is confined to the net purchase behaviour in debt category. However this study finds out the existence of certain unnamed latent variables, which in turn could be responsible for FII behaviour while operating with net equity purchase. Next course of study in the similar working paper will bring out the latent and hidden variables for the net purchases in the equity segment.



Equity and Debt Net purchases with time (Figure 1.0) [above]

Web Citations


        [1]        Singh, K (2014), Foreign Institutional Investors and Capital Market in India, New Century Publications, ISBN-13: 978-8177083767
        [2]        Agarwal, Chakraborty and Trivedi & Nair (2003), Determinants of Flls Investment Inflow to India. Paper Presented in 5th Annual Conference on Money & Finance in the India Economy, Indira Gandhi Institute of Development Research