The Sensex and the Nifty tanked 1.96% and 1.88% on the first trading day of the last week of July 2015. The sharp plunge in the benchmark indices was on account of two reasons – one in the global context and the other in the domestic context. China’s equity market tanked 8.48% on 27th July 2015, which led to global equity markets also feeling the pinch as the World’s second largest economy is set to grow at a slower pace than expected. The P-Notes issue has once again come into limelight similar to the situation that was seen in 2007. The bigger concern however is the slowdown in China that is expected to take some percentage points off the global economic growth in the near future.
Participatory Notes commonly known as P-Notes are instruments through which foreign individuals, hedge funds and others invest in India’s stock markets without being registered with market regulator Securities and Exchange Board of India (SEBI). P-Notes are popular with foreign investors because they are able to save time and the costs associated with direct registration with Indian authorities. In 2007, a crackdown on P-Notes had led to a 10% fall in the Sensex within minutes of the market opening. Trading had to be halted and then finance minister P Chidambaram had to make statements to calm the markets.
Investments through participatory notes in India’s capital market were about USD 43 billion at the end of June 2015. This amounts to 21% of the total foreign institutional investment (FII) in Indian markets. Investment through P-Notes has been steadily decreasing over the years. Till a few years ago, P-Notes used to account for more than 50% of total FII investments, but their share has fallen as SEBI has tightened disclosure norms and other related regulations.
The Special Investigation Team (SIT) appointed by the Supreme Court has suggested SEBI to put in place regulations to help identify individuals holding participatory notes or offshore derivative instruments (ODIs), and take other steps required to curb black money and tax evasion through the stock market route. The markets have reacted negatively to the issue but the bulk of the fall in the indices may be more from the concerns of fall in the benchmark indices of China which holds a bigger concern in the time to come.
Investors need not panic as the P-Notes issue is a temporary obstacle and the long term growth story remains intact for the Indian economy. Any correction in the benchmark indices would present an opportunity to buy from a long term perspective. The Finance Minister has given a clarification that the Government would not take any drastic steps to demotivate FIIs and spoil the investment climate in the economy.
Growth concerns in China would have positive as well as negative concerns for India. The Indian companies that have major exports to China would feel the impact of the slowdown but the FIIs who are selling stocks in China would be positively inclined towards India where economic conditions have improved in the last one year and the growth in the near future is also expected to be much better than any other emerging economies.