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Definition: Participatory Notes
The mechanism for allowing Foreign Institutional Investors (FIIs) to invest in domestic capital market is done using Participatory Notes (PN), also called P- Notes. For an FII to invest in the domestic market, it has to be registered with Securities and Exchange Board of India (SEBI). But, to be hassle free and get capital gains easily, FIIs prefer the option of P- Notes. They are considered Offshore Derivative Instruments (ODIs).
P- Notes are not issued by India; instead they are issued by an Indian registered FII to other foreign investors. The registered FII will initiate transactions in Indian stock market, on behalf of the overseas clients. These overseas clients should necessarily have the P- Notes issued.
P- Notes are issued on the underlying securities that the overseas client has invested in (through the registered FII). They are issued mainly by 4 major firms in India: Merrill Lynch, CitiGroup, Morgan Stanley and Goldman Sachs. There is basically an oligopoly structure in the issuance of P- Notes. The reasons are as follows:
1. Government Policy: For issuing P- Notes, the financial institution has to be registered with SEBI. Also, various capital requirements, revenues, profitability of the company etc have certain minimum requirements
2. Capital Requirements: The issuing financial institution must have certain portion of its own capital kept aside for contingency purposes
The P- Note holder gets the capital gains, dividends and any split shares of the underlying securities.
• Allow the final overseas client anonymous
• Ease of trading: Makes the P- Note holder free from the hassles of registration
• Tax Saving: Many FIIs invest in countries where the tax to be paid over their capital gains is less so that they save that profit
• Possibility of movement of black money from the country for safe storage overseas
• When Indian stock holders have to go through the tedious procedure of verifications and registrations, the overseas clients are given the privilege of skipping this procedure
• Other Governments or overseas firms can claim a large amount of shares an take over the domestic firm in an hostile manner and still remain anonymous