Who's Afraid Of FIIs?

ARE the pin-striped, figures-at-finger-tips foreign institutional investors (FIIs) sounding the death knell for traditional, family-owned Indian broking firms? Last month, in a letter reflecting shades of the Confederation of Indian Industry vs transnationals controversy, Bombay Stock Exchange President M.G. Damani told Finance Minister P. Chidambaram: "Our markets have become FII-driven, which is dangerous..." Speaking to Outlook, he went further: "Unless something drastic is done, the writing on the wall is clear: medium and small broking outfits will have to fold up."

Figures do point to a sudden inundation of the markets by FII investments. Cumulative net investments by FIIs on June 25 were $6.22 billion (Rs 21,770 crore). About $2.04 billion came in during the first five months this year, against $2 billion for all of last year. Writing to Chidambaram on the spurt in the BSE Sensex, Damani said: "It should not lead to any illusion as it has been caused by concentrated and aggressive buying by FIIs in selected few heavyweight scrips. Increase in volumes and prices are restricted to 25-30 scrips only."

A large part of FII investments have been in A Group bluechips on the BSE and the National Stock Exchange (NSE). These scrips have shown great volatility, while volumes at small exchanges have dipped.

Smarter brokers could have guessed the shape of things to come in 1993, when the Securities and Exchange Board of India (SEBI) permitted half a dozen international broking houses to set up shop. While Morgan Stanley, Jardine Fleming and Peregrine decided to go it alone, a few went in for Indian partners. James Capel teamed up with Batlivala and Karani, J.P. Morgan with I-Sec, and Goldman Sachs picked up Kotak Securities. BZW, the equity investment arm of Barclays Bank, is about to announce a joint venture. Baring Securities and Crosby have acquired their broking cards on both the NSE and BSE. UBS Securities and Daiwa Securities will join the club. Daewoo Securities is negotiating with a local partner.

Says Asit C. Mehta, a leading broker: "Small and medium brokers will feel the pinch most. Capital and infrastructure costs are set to boom and there is no point in remaining in business without a minimum volume." Those who are able to tie up with FIIs are past the gate, the rest are trying to hawk their membership cards to foreign buyers. Or hoping that the Government would change some rules for them to survive. Says Damani: "To make the market more broadbased, all Indian investors who bring in US dollars, should be treated at par with FIIs in terms of long-term capital gain tax." Indians pay 20 per cent tax on such income, while FIIs pay 10 per cent, or none at all if they come through Mauritius. Alok Vajpeyi, director, BZW, feels the same: "Basically, everyone should be treated at par. The benefits given to FIIs should also be available to Indian brokers."As Outlook went to press, all eyes were on Chidambaram's first Budget: will it level the field for all brokers?

According to leading foreign exchange trader Jamal Mecklai, part of the FII investment is a fallout of global market realities. "When money is flowing into US bonds," he explains, "the yield falls and could, if the rally is particularly strong, result in funds flowing out from other investment avenues, like equities, and even emerging market securities. There is a positive correlation between the bell weather indicator, the monthly average yield on the US 30-year bond and the BSE monthly average Sensex. That means, when money was flowing into US bonds, it was flowing out of Indian equities, and vice versa."

 In the meantime, foreign brokers continue to gather business. For one, the large foreign fund managers are more comfortable with foreign brokers, with whom they deal with in other markets. Indian brokers, therefore, want the Government to allow them to convert their individual membership to corporate membership. Says Damani: "Corporatisation will encourage professionalism, inject transparency in operations, attract bank finance and improve capital adequacy." Only 62 of the 643 BSE members are corporate, the rest being partnership or individual members. In contrast, the NSE has 671 corporate members of a total of 822.

History doesn't side with individual brokers. In England, prior to 1987, individual brokers commanded 45 per cent of the volume. Now they rule less than 15 per cent.

 In India, the FIIs claim they are still testing the waters. Says Sanjay Jha, vice-president, ITC Thread needle: "I wouldn't be surprised if the FIIs put in another $4 billion in the second half of the year." When that happens, the grumblings of Indian brokers could well turn into a roar.