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Education Investing in India: Here’s What Foreigners Need to Know

With a young dynamic population and the largest number of middle class professionals in the world, (currently 300 million) there’s little wonder the Indian Economy is top of the list when it comes to foreigners looking to invest.

Unfortunately up until now that’s been easier said than done. The Indian government has been reluctant to open up the economy to foreign investment, fearing a crisis like the one which hit Southeast Asia in 1998. But all that is changing. A recent slowdown, spurred the usually lethargic Indian government into action.

India’s President House

Over the past couple of years they’ve introduced a number of reforms which make it easier  for foreigners to invest directly in Indian companies. These reforms have had a dramatic effect, foreign investment in India for 2012 was around $45 billion, up from just $10 billion in 2005.

So how can you get in on the action?

How to Invest In Indian Companies.

There are a number of different options open to you if you’re looking to invest your capital. We’ll take a look at three of the most popular ways retail investors can gain access to the Indian market.

ADRs

ADRs (American Depositary Receipts) are the traditional way of investing in foreign companies. ADRs represent individual stocks and are traded on the either the New York Stock Exchange (NYSE), American Stock Exchange (AMEX) or the Nasdaq.

The premise is simple. A US bank simply buys a block of shares in an Indian company and reissues them in the US market. ADRs are typically priced in the $10 to $100 bracket, this is to avoid any connotations with penny stocks, which would otherwise put investors off buying them.

Therefore a single ADR may contain a number of shares in the local company. If a company trades at 50 rupees per share in India, this equates to around $1.65 in the US. So a single ADR in this company is likely to contain 10 shares of the local company.

There are 3 different types of ADRs:

  • Level 1 – These are traded over-the-counter and have the loosest requirements from the Securities and Trade Commision (SEC). They typically represent small-cap less well known Indian corporations.
  • Level 2 – These are typically traded on the Nasdaq and carry stricter SEC regulation. Most of India’s high technology companies are listed as Level 2 ADRs on Nasdaq.
  • Level 3 – This is the most prestigious listing and is equivalent to a full public offering. They can be used to raise capital and offer substantial visibility in the US market. They are effectively blue chip large-cap companies and have to adhere to full SEC regulations.

The advantages of ADRs are that they offer foreign investors a quick and easy way into the Indian market, without being exposed to local currency fluctuations, plus you avoid having to pay foreign taxes.

ETFs and Mutual Funds

If investing in individual stocks is not your thing, there are a number of Exchange Traded Funds (ETFs) and mutual funds which invest in a broad section of the Indian Economy.

Foreign Institutional Investors (FII), have had access to the Indian market for 10 years or more. There are several ETFs and mutual funds available, which cover a number of different sectors within the Indian economy. Everything from the 50 largest companies to small cap stocks and consumer products. New ETFs are being launched all the time, so it’s a good idea to check regularly to see what’s available.

Here’s a list of the most popular Indian market ETFs and mutual funds:

Exchange Traded Funds

iShares S&P India Nifty 50 Index Fund (NASDAQ:INDY): This fund seeks investment results that correspond generally to the price and yield performance of the S&P CNX Nifty 50 Index.

WisdomTree India Earnings Fund (NYSEARCA:EPI): This fund seeks to track the price and yield of the WisdomTree India Earnings Index.

Market Vectors India Small Cap Index ETF (NYSEARCA:SCIF): This fund seeks to replicate the price and yield performance of Market Vectors India Small Cap Index.

PowerShares India Portfolio ETF (NYSEARCA:PIN): This fund is based on the Indus India Index and is designed to replicate the Indian equity market as a whole.

This is by no means an exhaustive list, you can find a full list of Indian ETFs here.

Mutual Funds

Goldman Sachs Equity India (MUTF: GIAAX): This fund invests at least 80% of the value of its assets plus any borrowings for investment purposes in a portfolio of equity investments that are tied economically to India.

JPMorgan India Fund A (MUTF: JIDAX): This fund invests 80% of the value of its assets in the  equity of Indian companies or instruments that have similar economic characteristics. It may invest in securities denominated in US dollars, major reserve currencies and currencies of other countries in which it can invest.

BlackRock India Fund (MUTF: BAINX): This fund invests at least 80% of its total assets in the equity of Indian companies or in instruments with similar economic characteristics. It invests primarily in the common stocks of companies that are selected for their growth potential and which are valued at a reasonable price.

Qualified Foreign Investor (QFI)

Previously it has not been possible for foreigners to invest directly in Indian stocks, outside of an ADR. This all changed on January 1, 2013 with the introduction of Qualified Foreign Investor (QFI) status.

To gain QFI status you must be resident of a country that is a member of the Financial Action Task Force (FAFT) and a signatory to the IOSCO’s MMOU with the Securities and Exchange Board of India (SEBI). The US qualifies on both counts. You can find a full list of qualifying countries here.

QFI status allows you to invest directly in Indian companies via the Bombay Stock Exchange (BSE) and the National Stock Exchange of India (NSE). You can also invest in Indian based mutual funds and corporate bonds.

Individual QFIs are allowed to hold up to 5% of the equity of an Indian company. The aggregate shareholding of all the QFIs in an Indian company cannot exceed 10%. You can also invest up to $1 billion in both Indian corporate bonds and mutual funds.

QFIs can only invest through a registered depository participant (DP). The depository participant acts as an intermediary between the investor and the depository, where your shares are held. You will also need to open a depository account, known as a demat, to trade with your DP. Each QFI is only allowed to open one trading account and one demat. You can open a demat account here.

To open a demat account you’ll also need a Permanent Account Number (PAN). This is issued by the Indian Income Tax Department and is basically a Tax number. You can apply for your PAN here.

As you can see there are quite a few hoops to jump through before you can invest directly in Indian companies. This is going to rule out QFI status to most small investors, the process is simply not going to be worth it. But if you’re going to invest a sizeable amount of money in India, it’s worth going through the motions to obtain your PAN number.

What Are The Pitfalls of Investing in India

India is without a doubt one of the most exciting investment opportunities of the 21st century. But it’s not without its pitfalls. India is a developing country and therefore requires a huge amount of investment in infrastructure, before it can truly compete on the world stage. If this investment fails to take place, long term growth could be stagnated.

Corruption amongst government officials is also a major concern. This creates legal and ethical challenges for anyone wanting to do business there. Bribes are common place and are considered part of the cost of doing business, but they can also backfire with disastrous consequences. As this recent AgustaWestland deal shows. You should be aware of this when selecting your investment vehicle.

The Indian economy is still growing fast, they are largely self sufficient and not reliant on major exports like the Chinese economy, meaning they are somewhat insulated from the worlds problems. But this growth comes with its own challenges, chief of which is a lack of qualified people.

Whilst India has a huge population, many of them are very poorly educated. This has created a shortage of doctors, engineers, tax inspectors and teachers. If India is the fulfil on its promise, this has to change and quickly.

Closed Currency

The Indian rupee is a closed currency, it is forbidden for foreign nationals to take rupees in and out of the country. Indian nationals are limited to importing and exporting 7500 rupees at a time. This restriction on moving funds has had a negative impact on cross border trade.

There are a number of reforms in process, which should remove these current account restrictions and enable more free trade. But as with everything in India, it’s taking a long time. These changes have been ongoing since 1991 and theres still no sign of a resolution.

Having said all that, India is still the promised land. The opportunity is great and the possibilities are endless. Imagine what it was like investing in America during the 1890s, thats what India is like today. The elevator is still on the ground floor, the question is, are you going to get in?