As businesses venture beyond domestic borders, they encounter diverse investment opportunities, among which are Foreign Portfolio Investment (FPI) and Foreign Direct Investment (FDI). However, while Foreign Portfolio Investment (FPI) might be a familiar term often discussed in financial circles, Foreign Direct Investment (FDI) may be less known to some.

Although these terms may initially appear similar, there are crucial differences between them. As a result, the comparison between FPI and FDI yields unique implications and significance due to their differing approaches to international investment.

In this blog, let’s delve into the differences between FPI and FDI.

What is Foreign Portfolio Investment (FPI)?

Foreign Portfolio Investment (FPI) entails investing in the financial assets of a foreign nation, like stocks or bonds available on an exchange. This form of investment is sometimes perceived less favorably than direct investment because portfolio investments can be swiftly liquidated and are occasionally viewed as short-term endeavors aimed at profit-making rather than long-term contributions to the economy.

Portfolio investments typically have a shorter investment horizon compared to direct investments. Like any equity investment, foreign portfolio investors anticipate realizing profits on their investments promptly.

Due to the ease of trading securities, portfolio investments boast higher liquidity than direct investments. Moreover, portfolio investments are more accessible to the average investor than direct investments, necessitating significantly lower investment capital and research.

Recent FPI Trends in India

Foreign portfolio investors are engaged in selling equities in Indian markets, a trend observed since October 2021. Advanced nations with stringent monetary policies have heightened demand for commodities denominated in dollars, leading to sustained outflows of funds from Indian markets. In 2022, foreign portfolio investors sold equities worth ₹121,439 crores in India.

Key characteristics of FPI include:

• Short-Term to Medium-Term Focus: FPI generally has a shorter-to-medium-term investment outlook. Investors may buy and sell financial assets based on market dynamics, economic trends, or other short-term factors.
• Limited Control: Unlike FDI, FPI does not involve acquiring a major ownership stake in a foreign company, and investors do not actively engage in the management or decision-making processes of the invested companies.
• Diversification Strategy: Investors frequently use FPI to diversify their investment portfolios across various countries and asset categories, spreading risk and potentially boosting returns.
• Financial Instruments: FPI typically encompasses investments in financial instruments like stocks, bonds, mutual funds, and other tradable securities traded in financial markets.
• Liquidity: FPI offers investors high liquidity, as they can easily purchase or sell financial assets in the secondary market.
• Return Objective: The primary goal of FPI is to generate financial returns through capital appreciation, interest, dividends, or other income streams associated with the held financial assets.

What is Foreign Direct Investment (FDI)?

Foreign Direct Investment (FDI) entails establishing a direct business stake in a foreign nation, which can involve purchasing or founding manufacturing ventures, constructing warehouses, or acquiring real estate properties.

FDI typically signifies a more substantial, long-term commitment to the economy of a foreign country. Due to the considerable investment outlay required, FDI is usually undertaken by multinational corporations, large institutions, or venture capital firms. It tends to garner more favorable perceptions since it represents long-term investments and contributes to the overall welfare of the host country.

Simultaneously, the nature of direct investment, such as establishing or acquiring manufacturing facilities, makes divestment or withdrawal from the investment much more challenging. Consequently, direct investment is typically approached with a mindset akin to establishing a domestic business—with the objective of ensuring profitability and sustaining operations indefinitely. For investors, direct investment entails exercising control over the invested business and directly managing its affairs. It also entails greater risks, efforts, and commitments than foreign portfolio investment.

Recent FDI Trends in India

The government has implemented measures to streamline the foreign investment framework and foster a conducive business climate, resulting in a substantial influx of foreign capital into the country.

In recent years, the Government of India has launched several initiatives, including the relaxation of FDI regulations in Public Sector Undertakings (PSUs) and the defense sector. Reforms have also been implemented in the telecommunications sector, oil refineries, and power exchange industries. Additionally, efforts have been made to reform stock exchanges.

Key characteristics of FDI include:

• Long-term Commitment: FDI entails a prolonged dedication, with investors aiming to establish a lasting foothold in the foreign market. This often involves acquiring a substantial ownership stake in a foreign company, typically 10% or more.
• Equity Participation: FDI typically entails acquiring equity participation in a foreign enterprise. This can occur through establishing new business operations (greenfield investment) or acquiring an existing company (brownfield investment).
• Transfer of Resources and Technology: FDI frequently involves the transfer of resources, technology, and expertise from the investing country to the host country. This transfer can foster the economic development of the host country.
• Risk and Return: FDI carries inherent risks, including exposure to the host country’s economic and political conditions. Nonetheless, it offers the potential for greater returns over the long term.
• Employment Generation: FDI has the potential to generate employment opportunities in the host country as new businesses are established or existing ones are expanded.

After a deep understanding of FDI and FPI, let’s quickly look at their concise differences.

Difference between FDI and FPI

Though both of these look alike in terms of accessing a foreign market, both of these terms have a few differences, as mentioned below:

• Level of Control: In FDI, the investor gains control over a foreign company by acquiring at least 10% of its shares, influencing company management. Conversely, in FPI, investors lack control over company management, and their investments are contingent upon financial market performance.
• Investment Duration: FDI represents a long-term commitment, enabling investors to establish enduring company interests and access local markets strategically. Conversely, FPI is driven by short-term market dynamics, with investors buying and selling securities based on immediate market trends.
• Investment Objectives: FDI typically aims to establish enduring business interests in foreign countries, such as establishing manufacturing facilities, acquiring local companies, or forming joint ventures. Conversely, FPI often seeks to diversify investment portfolios, participate in foreign economic growth, and exploit short-term market opportunities.
• Risk Factors: FDI entails higher risks compared to FPI, involving substantial investments in infrastructure, facilities, and equipment. It is also exposed to political, economic, and regulatory risks in the host country. Conversely, FPI is influenced by financial market volatility and can be impacted by currency fluctuations, interest rates, and other macroeconomic factors.

Conclusion

FDI and FPI represent distinct investment approaches in foreign countries. FDI entails a lasting commitment to establish business interests abroad, while FPI serves as a short-term strategy for diversifying investment portfolios and engaging in the growth of foreign economies. Before investing, individuals should thoroughly evaluate each investment type.