P-notes worry? Give me a break! They bring in just 10% of FII flow

By DK Aggarwal

The domestic equity market was spooked by worries over stricter participatory notes (P-notes) norms issued by Sebi, the capital market regulator. In line with market expectations, Sebi tightened the rules by imposing limits on the transfer of P-notes and seeking more disclosure.

History shows every time Sebi attempted to curb flows by tightening P-notes norms, the market has shown worries with respect to foreign flows. To note, P-notes now make up for just about 10 per cent of total foreign investment inflow, against over 55 per cent in 2007.

Sebi wants strong systems in place to identify the end beneficiaries. P-notes are instruments, which are issued by registered foreign portfolio investors (FPIs) to overseas investors, who intend to invest in the Indian stock market.

These overseas investors can invest without registering themselves with Sebi. Sebi acted upon recommendations of the Supreme Court-appointed SIT as part of its efforts to curb money laundering through this route.

The new norms, issued by Sebi this past week, will not only ensure more transparency but will also gradually make the product irrelevant and less attractive with time.

Under the new norms, it has been decided that P-notes subscribers will have to seek prior permission of the original P-notes issuers for further/onward issuance/transfer of P-notes and this would enable the regulator to know the complete transfer trail of P-notes on a monthly basis.

Thus far, P-notes subscribers were not required to take prior permission of the issuers for transferring the instruments to another investor offshore.

The new norms also require P-notes issuers to file suspicious transaction reports with the Indian Financial Intelligence Unit on the notes issued by them. Moreover, they would have to carry out reconfirmation of the P-notes position on a semi-annual basis.

In addition, Sebi has made it mandatory that P-notes issuers would have to follow the Indian know-your-client (KYC) and anti-money laundering norms instead of the norms prevailing in the jurisdiction of the end beneficiaries or P-note issuers.

The objective is to bring uniformity in KYC norms. Sebi has asked the P-notes issuers to carry out know-your-client review at the time of onboarding every year.

With the tighter norms, it will make the route difficult and more expensive to access the Indian market.

However, the impact of tighter p-notes norms on the market is expected to be shortlived, as India is poised to grow and would continue to be a bright spot for overseas market participants.

(The author is Chairman and MD, SMC Investments and Advisors. Views and recommendations given in this section are his own and do not represent those of ETMarkets.com. Please consult your financial adviser before taking any position in the stock/s mentioned.)