By Suresh Swamy and Vinit Shah

Recently, somebody complimented an investment manager, "Hey, you lost weight," and he said, "Yeah, 35 pounds and three and a half billion dollars."  The comment probably summarises what an enthralling year 2007-08 was. It will probably be rated as the most volatile year by the Foreign Institutional Investors (FII) in their last 10 years of presence in India.

Suresh Swamy

Stock market:The year started with the Sensex hitting the level of 12,600 in April 2007. The sentiments being bullish in the months of July, September, October and December 2007, Sensex scaled new highs each month. In January 2008, Sensex peaked to the all time high at 21,208. However, it collapsed to almost 15,000 in the a matter of few days as liquidity got sucked out of the market due to unprecedented subscription to couple of Initial Public Offering. Also, due to international market’s reaction to the grim news on US recession. Since then Sensex has been range bound hovering between 16,000 and 18,000

The action in the market was more or less matched by the changes in the regulation as well as tax laws affecting them. Infact, in some instance, the regulations contributed to the market action, with some positive and some not so positive proposals.

Regulatory moves: On the regulatory front, the year witnessed introduction of currency futures whereby the FIIs were permitted to pledge the Foreign Sovereign Securities as collateral for exchange traded derivatives.

Another move from the regulators was to allow short selling by the FIIs. Recognising the fact that permitting short selling has to be backed up by introducing a full-fledged securities lending and borrowing (SLB) mechanism to avoid schematic failure of the system, the regulators also allowed securities lending and borrowing scheme. The Central Board of Direct Taxes (CBDT) also recently clarified tax treatment on lending and borrowing securities under the scheme. However, the effective date for operation of the scheme is yet to be notified.

The debt investment limit for investments by FIIs/sub accounts in government securities/T-Bills was enhanced from USD 2.6 billion to USD 3.2 billion.

SEBI on PN: The positive developments were also accompanied by some negative developments. The regulatory were always concerned about the huge inflow of foreign funds and in particular their inability to track the source of these funds. In what may be called a bold decision, Securities and Exchange Board of India (SEBI) clamped down on issue of Participatory Notes (PN) by FIIs/sub accounts. It imposed an immediate ban on issue of PNs where the underlying was derivatives traded on Indian stock market.

It also instructed the players to wind up their existing positions within a period of 18 months. Issue of PNs with underlying stock was also restricted to 40 per cent of assets under custody.SEBI is also no longer keen to grant registrations to entities registered in non-IOSCO (International Organisation of Securities Commissions) compliant jurisdiction. Recent news however indicates that SEBI is considering relaxing the two year embargo on registering third party sub-accounts. In fact, it appears that SEBI is ready with a revamped FII regulation and will soon invite public comments on the same.

Vinit Shah 

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The authors belong to the financial services team of PricewaterhouseCoopers Pvt Ltd.