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Indian Financial System

Indian Financial System

SML 874

Term Paper

FII Flows to India: Nature and Causes

Department of Management Studies, IIT Delhi

[pic] Madhur Arora 2005SMF6526
MBA 2005-2007

Abstract

Since the beginning of liberalization FII flows to India have steadily grown in importance. In this term project I analyze these flows and their relationship with other economic variables and arrive at the following major conclusions:

❖ While the flows are highly correlated with equity returns in India, they are more likely to be the effect than the cause of these returns.
❖ The FIIs do not seem to be at an informational disadvantage in India compared to the local investors.
❖ The Asian Crisis marked a regime shift in the determinants of FII flows to India with the domestic equity returns becoming the sole driver of these flows since the crises.

FII Flows to India: Nature and Causes

Introduction
Portfolio investment flows from industrial countries have become increasingly important for developing countries in recent years. The Indian situation has been no different. In the year 2000-01 portfolio investments in India accounted for over 37% of total foreign investment in the country and 47% of the current account deficit. The corresponding figures in the previous year were 59% and 64% respectively. A significant part of these portfolio flows to India comes in the form of Foreign Institutional Investors’ (FIIs’) investments, mostly in equities. Ever since the opening of the Indian equity markets to foreigners, FII investments have steadily grown from about Rs. 2600 crores in 1993 to over Rs.11, 000 crores in the first half of 2001 alone. Their share in total portfolio flows to India grew from 47% in 1993-94 to over 70% in 1999-2000. The nature of the foreign investor’s decision-making process lies at the heart of the portfolio flows.

While it is generally held that portfolio flows...