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The government kicked off the New Year with a major policy decision to allow qualified foreign investors (QFIs) to directly invest in the Indian equity market.

The step has been taken to widen the class of investors, attract more foreign funds, reduce market volatility and deepen the Indian capital market, according to an official statement issued on Sunday.

A QFI is an individual, group or association resident in a foreign country that is compliant with financial action task force (FATF) standards. QFIs do not include FIIs/ sub-accounts.

There have been huge foreign capital outflows from the domestic equity market in recent months, which has resulted in volatility in the stock market and a sharp depreciation of the rupee vis-a-vis the dollar.

With the further opening up of the stock market to a new class of foreign investors, the government hopes to attract more capital to stem the outflow.

In August last year, the government allowed foreign investors to directly invest up to $ 13 billion in equity and debt schemes of mutual funds.

With regard to foreign portfolio investments, at present, only FIIs/ sub-accounts and non-resident Indians (NRIs) are allowed to directly invest in the Indian equity market.

According to Securities and Exchange Board of India (Sebi) figures, there has been a net FII capital outflow of over Rs.2,700 crore during 2011. In sharp contrast, the Indian stock market had witnessed a net FII inflow of over Rs.1.3 lakh crore during 2010.

This triggered a slide in the rupee, which fell to a historic low of Rs.54.30 against the dollar on December 15.

Volatility in the stock market has forced the government to shelve its disinvestment plan through which it had planned to raise Rs.40,000 crore to prune the fiscal deficit.

Sebi and the Reserve Bank of India (RBI) are expected to issue relevant circulars to operationalise the scheme allowing QFIs to directly invest in Indian equities by January 15. The RBI would grant general permission to QFIs for investment under the portfolio investment scheme (PIS) route, similar to FIIs.

The individual and aggregate investment limit for QFIs has been fixed at five per cent and 10 per cent, respectively, of the paid-up capital of an Indian company, the statement said.

These limits shall be over-andabove the FII and NRI investment ceilings prescribed under the PIS route for foreign investment in India, it added.

Foreign capital inflows to India have significantly grown in importance over the years. These flows have been influenced by strong domestic fundamentals and buoyant yields reflecting robust corporate sector performance, the statement said.

A large number of QFIs, especially diversified individual foreign nationals who are keen on investing, do not have direct access to the Indian equity market, the statement explained.

QFIs will also be allowed to invest through Sebi-registered qualified depository participants (DP). The DP will have to ensure that QFIs are compliant with all know-your-customer and regulatory norms. It would also be responsible for deduction of applicable tax at source out of the redemption proceeds before making redemption payments to QFIs.

QFIs shall remit money through normal banking channels in any permitted currency (freely convertible) directly to the single rupee pool bank account of the DP maintained with a designated AD Category-I bank, the statement said.