Dark Side of Foreign Funds Entering Indian Reality/Capital
Government of India is profoundly advocating 100% FDI investments in the reality sector. The underlying notion is progressive infrastructure development to support its foreign trade policy objectives. This opportunity has helped global institutions and banks to invest in India with a ready made mindset of leveraging India’s fundamental growth buoyancy on a long term basis. The buoyancy/potential that I am talking about relates to India’s 1billion+ population and 50% + young working population that would propel the economy for the next three decades. Global investors like Goldman Sachs, Citi, Temasek Holdings, Fidelity, HSBC, DSP Merrill Lynch, and Prudential are pooling in heavy investments within Indian capital markets. Companies like Emaar, Rakeen, Damac Properties, Nakheel, Al Fazer, ETA Star and many more are getting into strategic alliances and technology joint ventures to enter the Indian reality market space.
As per the estimates given by economic times, the Indian reality market stands at USD 45 billion. Ironically, the investments India’s required for developing and upgrading age old infrastructure stand at a mammoth figure of USD 365 billion required over the next decade. In order to achieve this mission and support India’s growth story, Government of India (finance ministry) had recently proposed RBI to utilize foreign reserves to build India’s infrastructure. India’s foreign reserves stand at USD 158 billion as on date. In revert to GOI, the RBI had disapproved the proposal and had very categorically specified the reasoning stating: “Countries foreign reserves can only be used for running financial markets, maintaining countries Capital and Current accounts, for monitoring balance of payment situation and meeting international obligations”.
Now looking at the business aspect, when we talk about international trade and development, there are two countries which are never taken for granted. Yes, I am sure you recognize them. When we look at China, this global dragon has transcended to a manufacturing mad-house with billions of worth of exports and domestic trade executed on daily basis. This country started its reforms in the early 1980s and today we very well recognize where it stands. China had managed to bag this growth by heavily investing in infrastructure. To quote, China’s investment in Infrastructure stood at USD 460 billion in the year 2007-08. When we look at India, the white elephant, the golden bird, whatever you may wish to call it, had encountered a services revolution with the onset of IT/ITes revolution worldwide. To administration’s delight, this revolution didn’t require the kind of infrastructure as China did, thus finding us a much cherished escapade.
Today, India needs infrastructure to maintain and further propel its economic growth. It is essential to develop its domestic market and expand its domestic consumer base and provide enough opportunities to small and mid sized entrepreneurs, companies to get their space within the growth bandwagon that India is encountering today.
Taking up this opportunity also comes up with a net-cost. In fact all this growth in the Infrastructure and Real Estate that we see today in particular comes at a cost. Foreign funds that enter India are usually in the form of FIIs and portfolio investments. These FIIs get their money in India to hedge their holdings in the International markets (on case to case basis). These funds are known as hedge funds. As these funds enter Indian capital markets, the FIIs buy equity stakes in listed companies. Some of these are DLF, Parsvnath, Unitech and more.
These FII purchases inflate stock values of the floating stock by creating scarcity of supply in the secondary market. With an increase in the stock valuation and change in the PE ratios of the concerned companies, the retail investors are lured by private brokerage houses like Indiabulls, Motilal Osawal, Kotak Mahindra, ICICI Direct to invest in the equity markets, mutual funds (not in real estate), and ULIP funds. Moreover, these investments by FIIs not only increase the stock values of real estate companies but also inflate the stock values of feeder industries. For example, cement companies like Ultratech, steel companies like Jindal steel and TATA steel, Banks like Housing Development Financial Corporation (HDFC), ICICI and more see a rise in their valuations with the sizeable purchase of reality stocks. All these developments and positive market sentiments lead to greater liquidity in the market with more and more ‘cul de sac’ investor participation. As the spending increases, the prices of the goods increase, making life difficult for the common man as their purchasing power parity reduces on the countrywide basis.
This is where the Bull Run works out its own setback. In order to curb inflation and rising prices, the central bank (RBI) makes money lending more expensive by increasing residential and commercial borrowing rates to customers and developers respectively. This leads to reduced growth within the industry (RE in this case). As the growth reduces, the industry and feeder industry growth also gets effected. Companies sack skilled manpower leading to unemployment and loss of taxes to the government. Companies lose business as they experience ‘Adhic Mas’ situation wherein consumer is unwilling to buy expensive properties. This further leads to deterioration of product quality standards by developers in order to make product more affordable. Also, the central bank increases the CRR (Cash Reserve Ratio) and appreciates Repo and Reverse Repo Rates in certain cases making money more expensive to lend.
As these changes manifest, the FIIs begin profit booking and give away their market positions. Resultantly, the markets fall, the retail investors lose money for the money invested in equities, mutual funds, ULIP funds and all this at the cost of foreign funds.
As per the estimates given by economic times, the Indian reality market stands at USD 45 billion. Ironically, the investments India’s required for developing and upgrading age old infrastructure stand at a mammoth figure of USD 365 billion required over the next decade. In order to achieve this mission and support India’s growth story, Government of India (finance ministry) had recently proposed RBI to utilize foreign reserves to build India’s infrastructure. India’s foreign reserves stand at USD 158 billion as on date. In revert to GOI, the RBI had disapproved the proposal and had very categorically specified the reasoning stating: “Countries foreign reserves can only be used for running financial markets, maintaining countries Capital and Current accounts, for monitoring balance of payment situation and meeting international obligations”.
Now looking at the business aspect, when we talk about international trade and development, there are two countries which are never taken for granted. Yes, I am sure you recognize them. When we look at China, this global dragon has transcended to a manufacturing mad-house with billions of worth of exports and domestic trade executed on daily basis. This country started its reforms in the early 1980s and today we very well recognize where it stands. China had managed to bag this growth by heavily investing in infrastructure. To quote, China’s investment in Infrastructure stood at USD 460 billion in the year 2007-08. When we look at India, the white elephant, the golden bird, whatever you may wish to call it, had encountered a services revolution with the onset of IT/ITes revolution worldwide. To administration’s delight, this revolution didn’t require the kind of infrastructure as China did, thus finding us a much cherished escapade.
Today, India needs infrastructure to maintain and further propel its economic growth. It is essential to develop its domestic market and expand its domestic consumer base and provide enough opportunities to small and mid sized entrepreneurs, companies to get their space within the growth bandwagon that India is encountering today.
Taking up this opportunity also comes up with a net-cost. In fact all this growth in the Infrastructure and Real Estate that we see today in particular comes at a cost. Foreign funds that enter India are usually in the form of FIIs and portfolio investments. These FIIs get their money in India to hedge their holdings in the International markets (on case to case basis). These funds are known as hedge funds. As these funds enter Indian capital markets, the FIIs buy equity stakes in listed companies. Some of these are DLF, Parsvnath, Unitech and more.
These FII purchases inflate stock values of the floating stock by creating scarcity of supply in the secondary market. With an increase in the stock valuation and change in the PE ratios of the concerned companies, the retail investors are lured by private brokerage houses like Indiabulls, Motilal Osawal, Kotak Mahindra, ICICI Direct to invest in the equity markets, mutual funds (not in real estate), and ULIP funds. Moreover, these investments by FIIs not only increase the stock values of real estate companies but also inflate the stock values of feeder industries. For example, cement companies like Ultratech, steel companies like Jindal steel and TATA steel, Banks like Housing Development Financial Corporation (HDFC), ICICI and more see a rise in their valuations with the sizeable purchase of reality stocks. All these developments and positive market sentiments lead to greater liquidity in the market with more and more ‘cul de sac’ investor participation. As the spending increases, the prices of the goods increase, making life difficult for the common man as their purchasing power parity reduces on the countrywide basis.
This is where the Bull Run works out its own setback. In order to curb inflation and rising prices, the central bank (RBI) makes money lending more expensive by increasing residential and commercial borrowing rates to customers and developers respectively. This leads to reduced growth within the industry (RE in this case). As the growth reduces, the industry and feeder industry growth also gets effected. Companies sack skilled manpower leading to unemployment and loss of taxes to the government. Companies lose business as they experience ‘Adhic Mas’ situation wherein consumer is unwilling to buy expensive properties. This further leads to deterioration of product quality standards by developers in order to make product more affordable. Also, the central bank increases the CRR (Cash Reserve Ratio) and appreciates Repo and Reverse Repo Rates in certain cases making money more expensive to lend.
As these changes manifest, the FIIs begin profit booking and give away their market positions. Resultantly, the markets fall, the retail investors lose money for the money invested in equities, mutual funds, ULIP funds and all this at the cost of foreign funds.
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