I. Introduction
Investment or capital is a key component of any country’s financial growth. However, in most cases, a country cannot meet the requirement of capital with internal investments. And that’s where foreign investments such as foreign direct investment (FDI) and foreign portfolio investment (FPI) come into play.
But before you put your money into any of them you must understand their differences thoroughly and pick what suits you the best. Today in this blog post, we will discuss the differences between FDI and FPI, their impact on the economy, strategies and objectives, regular framework, case studies, and more.
II. Understanding FDI
Before we talk about the key differences between FDI and FPI, let’s understand what FDI is first. Foreign direct investment or FDI refers to long-term investments made by foreign entities. They make this kind of investment to establish a lasting and impactful business interest in the other country.
In foreign direct investment schemes, investors get management controls. And they actively participate in management tasks of the company. FDI usually involves establishing subsidiaries, merging or acquiring existing entities, and starting a new venture with a local company.
Therefore, the primary objective of foreign direct investment schemes is to facilitate economic growth, transfer technologies, create employment opportunities, etc. It also helps to increase production capacity, boost industry-specific growth and more.
Read More: Foreign Direct Investment (FDI) in India: What It Is and What Are Its Types?
III. Understanding FPI
Understanding FPI or foreign portfolio investment is also important before we move to discuss the key differences between FDI and FPI. Foreign portfolio investment or FPI refers to the short-term investment made by foreign investors. In this type of foreign investment, investors make investments in various assets like stocks, bonds, and securities.
Although these investments don’t offer management controls in the company, they also do not require active participation in managing the invested company. Usually, foreign portfolio investment investors seek quick returns on the investment. Thus, they often prioritize liquidity and portfolio diversification.
An example of an FPI can be foreign investors purchasing shares of a native company listed on the stock exchange and adding them to their portfolio to make capital gains or earn dividends.
IV. Key differences between FDI and FPI
Foreign direct investment (FDI) and foreign portfolio investment (FPI) are both foreign investment schemes. But they are inherently different and have unique aspects that you must know as an investor. In the sections below, we discuss the key differences between FDI and FPI in detail—their impact on the economy, their investment strategies and objectives, and their regulatory frameworks.
V. Impact on the economy
Both FDI and FPI have a significant impact on the economy of a country.
Foreign direct investment can affect a country’s native investment and adversely affect domestic companies. Small companies and start-ups may not be able to withstand the higher FDI involvement in the form of MNCs. Also, increased FDI can cause many native companies to shut down. The impact of FDI is not only limited to this. It can also negatively impact the exchange rate of a country as increasing rates of FDI reduce a country’s currency value.
On the other hand, FPI or foreign portfolio investment also has a strong impact on a country’s economy. Large amounts of FPI inflows and outflows can lead to significant exchange rate fluctuations for the host country. As a result, it also affects the country’s export competitiveness as well as economic stability.
VI. Investment strategies and objectives
Like the impact of the economy, FDI and FPI also differ in the aspect of investment strategies and objectives. Knowing these differences is essential to understanding each type in detail.
FDI is an investment form of party investment in one country into the business of another country. The main focus of such investment is to initiate lasting interest.
Also, key strategies for foreign direct investment include:
● Mergers and acquisitions
● Creating new facilities
● Reinvesting profits earned from overseas investments
● Intra-company loans
● Starting a new venture with a native company
On the other hand, the primary objective of foreign portfolio investment is to achieve financial growth and diversify your investment portfolio. Also, foreign portfolio investment invests for the short-term and ensures higher returns for the investment. FPI or foreign portfolio investment helps in maintaining the liquidity of the asset. Not only that, it also offers protection against native socio-economic risks.
Some key strategies for foreign portfolio investment involve:
● Acquiring financial assets such as bonds, stocks and securities
● Selecting and investing foreign stocks aligning with your risk tolerance
● Investing in foreign company stocks that align with your investment objectives
● Diversification of investment stocks to mitigate market risks, including inflation, market fluctuations
VII. Regulatory framework
Both FDI and FPI also differ in terms of regulatory framework. Below, we will learn about this aspect in detail.
At present, the foreign direct investment of India is primarily governed by
● Foreign Exchange Management (Non-debt Instruments) Rules, 2019
● Press releases/circulars/notifications issued in the connection
● Department for Promotion of Industry and Internal Trade and the Ministry of Commerce and Industry FDI policies
Conversely, for FPI, the primary regulatory authority is SEBI. In India, SEBI regulates all trade and investment matters, including the FPIs. The SEBI (FPI) Regulations, 2019 have set out compliance standards and guidelines for foreign portfolio investment. It also determines the FPI eligibility criteria, reporting requirements, investment limits and permissible investments. According to SEBI regulations, FPI in India has two categories: category I FPI and category II FPI.
VIII. Case studies
FDI and FPI are two key methods of foreign investment in India. Here are some case studies of FDI and FPI:
FDI case studies
● Leading telecom service provider, Idea appealed for a 100% FDI which was approved by DoT or the Department of Telecommunication in India, making it one of the largest telecom operators in India after merging with Vodafone.
● Indian company IPOs such as Zomato, Paytm, and Nykaa received FDI worth US$ 160.49 million from the Pension Fund Investment Board of Canada.
FPI case studies
● The USA is the most popular FPI contributor in India. As of the financial year 2023–2024, the USA’s number of registered FPIs in India is 3,457. Luxembourg has 1,393 registered FPIs in India, and Canada has 804.
IX. Conclusion
Foreign direct investment and foreign portfolio investment are both essential external investment forces for a country. Both FDI and FPI have a significant role in a country’s economy. However, both are inherently different and have their unique impact on the economy, regulatory framework and investment objectives.
Above, we have discussed FDI and FPI along with their key differences to help you understand them. Learning about them is important for any foreign investors. FDI usually represents a long-term foreign market commitment. Therefore, investors stay calm during market fluctuations. On the other hand, foreign portfolio investments are easy to withdraw during market downturns. However, quick FPI withdrawals can have a negative impact on the target market.
FAQs
1. What is the main difference between FDI and FII?
FDI or Foreign Direct Investment directly invests in the primary market of an economy. On the other hand, FII refers to foreign institutional investment in the secondary market of an economy.
2. What is the difference between FDI and FPI?
FDI refers to the investment in the productive assets of a foreign country. FPI means investing in the financial assets of a foreign country.
3. How does the outflow of FPI impact the Indian market and the rupee?
A: Increased outflow of FPI in India in the past few years has negatively impacted the Indian market and the rupee. It can result in a rising inflation rate and a weakening of the rupee.
4. Which statement best describes FDI and FPI?
A: FDI has a long-term investment approach for productive assets and FPI has a more short-term investment approach for financial assets.
