FII affinity for P-notes wanes

Share in total assets hits an all-time low in December.

Once a favourite of foreign investors, participatory notes (P-notes) seem to be losing attractiveness. Their proportion in the total assets held by foreign institutional investors (FIIs) has fallen to an all-time low.

According to data from the Securities and Exchange Board of India (Sebi), the value of FII investment was Rs 1,164,623 crore (equity, debt and derivatives) in December. The investments through P-notes in debt and equity accounted for 12.2 per cent, with derivatives positions making up 15.1 per cent of the total, an all-time low. This despite the fact that FIIs’ total assets or holdings in the Indian market in value terms (including derivative positions) was at an all-time high in December.

P-notes are offshore derivatives instruments where real investors are issued a letter showing their investments and an FII active in India holds these shares in its own name as a warehouse keeper. Such investments had been around 30 per cent and more of the total most of the time since they were allowed in 2003. The figure crossed 50 per cent in July 2007, after which these instruments were banned. These were again allowed a couple of years ago.

A broker handling the FII desk at a domestic investment bank said of late huge investments had been coming through P-notes even in initial public offers (IPOs) and some anchor investors in an IPO were actually P-note holders. These investors booked quick profit either on listing or in the very short term after listing. In the recent Coal India issue, for instance, 40-50 per cent of the applications by FIIs were through P-notes.
 

P-NOTE SELLOFF
Month	Total value (Rs cr)*	Total value (Rs cr)**	Total assets (Rs cr)#	Total value (%)@	Total value (%)^
	A1	A2	B	C1	C2
10-Jan	131,938	110,951	814,844	16.2	13.6
10-Feb	124,177	110,435	818,894	15.2	13.5
10-Mar	145,037	132,557	900,869	16.1	14.7
10-Apr	154,340	140,397	927,194	16.6	15.1
10-May	159,927	136,415	883,379	18.1	15.4
10-Jun	168,016	138,881	927,468	18.1	15
10-Jul	165,749	144,343	971,022	17.1	14.9
10-Aug	163,657	147,473	999,130	16.4	14.8
10-Sep	200,927	145,383	1,124,352	17.9	12.9
10-Oct	182,056	148,142	1,151,339	15.8	12.9
10-Nov	188,325	154,950	1,136,754	16.6	13.6
10-Dec	175,584	141,894	1,164,623	15.1	12.2
Note: * Total value of PNs on equity & debt, including PNs on derivatives ** Total value of PNs on equity & debt, excluding PNs on derivatives #Assets under custody of FIIs @ Total value of PNs on equity & debt, including PNs on derivatives as % of B ^Total value of PNs on equity & debt, excluding PNs on derivatives as % of B                                                                                                                   Source: Sebi

He said the P-note route should not be allowed for IPOs as these allowed holders to leverage their investments while domestic institutions could not do such investing.

However, for the past one month, FIIs are in a sell mode, dumping huge P-note investments, including in derivatives (see table).

A consultant with a leading law firm advising FIIs on legal and compliance issues said, “Several FIIs were declared non-compliant (for not meeting criteria on the number of investors, structure) by Sebi last year and barred from taking fresh positions. They’ve have started squaring off positions in P-notes and most fresh money is coming directly. Non-compliant FIIs are also coming back by getting themselves registered.”

Another broker said some of their FII clients were waiting for valuations to turn attractive before taking fresh positions.