Sebi’s relaxation of FPI disclosure rules likely to drive inflows but also increase market volatility

P-notes, also known as offshore derivative instruments (ODIs), allow foreign investors to gain exposure to Indian equities without registering as FPIs with Sebi and the tax department. These instruments are issued by large foreign banks with significant Indian operations, which purchase stocks on behalf of clients and issue receipts based on the underlying securities.

In August 2023, P-notes accounted for 2.28 percent of total FPI assets in India. The figure declined to 1.86 percent by December 2024. Under previous norms, FPIs with assets under management exceeding Rs 25,000 crore had to make detailed disclosures on beneficial ownership of their investors.

With Sebi’s latest relaxation, this threshold has now been raised to Rs 50,000 crore. However, the disclosure requirement for FPIs with more than 50 percent of their portfolio in a single corporate group remains unchanged.

The decision comes after at least two leading European banks and one US-based institutional investor halted onboarding new P-note clients to keep their Indian portfolios below Rs 25,000 crore and avoid triggering disclosure mandates. These institutions cited concerns over potential conflicts with confidentiality agreements and European data privacy regulations.

More funds to flock

With the revised threshold, P-note issuers can now onboard additional clients without crossing the disclosure threshold under portfolio concentration norms, which could provide a fresh boost to P-note activity in India.

“Sebi’s latest relaxation, raising the threshold from Rs 25,000 crore to Rs 50,000 crore, has provided much-needed headroom for FPIs issuing ODIs. This allows them to cater to client demand without triggering additional disclosure requirements,” said Suresh Swamy, partner at Price Waterhouse & Co LLP.

“This move will be welcomed by several FPIs who had previously hit the cap and were unable to issue further ODIs, resulting in a loss of business to competing ODI issuers. With their issuance capacity now significantly restored, these FPIs are likely to see renewed client interest.”

“The 2023 concentration norms had compelled several major P-note issuers to deliberately limit their portfolio value below Rs 25,000 crore to avoid mandatory granular BO disclosures. By revising this threshold, Sebi has effectively given these entities more flexibility to scale their operations and onboard new clients without facing immediate regulatory scrutiny at the previous limit,” said Kunal Sharma, partner at Singhania & Co.

While the relaxation is expected to drive fresh capital inflows, its impact on market will be closely watched, especially given the potential for increased speculative trading linked to P-notes.

Despite a sharp market correction and broad-based selling across sectors, the India Volatility Index (VIX) has not mirrored typical signs of investor anxiety. Often referred to as the market’s fear gauge, the VIX has been declining even as equities have witnessed steep corrections — a rare occurrence.

Since January, it has dropped 12.5 percent, aligning with a similar decline in benchmark indices, according to a Forbes India analysis.

The Nifty, in particular, has lost nearly 2 percent this year. Generally, VIX and broader indices share an inverse relationship, with volatility rising in times of market turmoil. However, over the past six months, despite significant market weakness, VIX has remained unusually low, raising questions about investor sentiment and market stability.

“While this relaxation is likely to bolster market participation and liquidity, it also could enhance volatility necessitating a nuanced evaluation of its implications for transparency and systemic risk mitigation. The efficacy of this regulatory shift will ultimately be determined by its implementation and Sebi’s ability to maintain a robust surveillance framework while accommodating the legitimate interests of global investors,” said Tushar Kumar, advocate, Supreme Court of India.