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WHAT IS P-NOTE ?

What is P-Notes

Participatory Notes commonly known as P-Notes are instruments issued by registered foreign institutional investors (FII) to overseas investors, who wish to invest in the Indian stock markets without registering themselves with the market regulator, the Securities and Exchange Board of India – SEBI. SEBI has permitted foreign institutional investors to register and participate in the Indian stock market in 1992.

Investing through P-Notes is very simple and hence very popular amongst foreign institutional investors because Participatory notes are instruments used for making investments in the stock markets. However, they are not used within the country. They are used outside India for making investments in shares listed in the Indian stock market. That is why they are also called offshore derivative instruments.

In the Indian context, foreign institutional investors (FIIs) and their sub-accounts mostly use these instruments for facilitating the participation of their overseas clients, who are not interested in participating directly in the Indian stock market.

How do Participatory Notes work?


India based brokerage houses buy Indian securities on behalf of foreign investors such as Hedge Funds and issue PNs to them. This PN is basically a contract between the foreign investor and the broking entity which assumes the responsibility of trading on behalf of the foreign investor. Any dividends or capital gains collected from the underlying securities go back to the investors.

30% FII money in stocks through P-Notes

According to estimates, more than 30 per cent of foreign institutional money coming into India is from hedge funds or other international funds. This has led Sebi to keep a close watch on FII transactions, and especially hedge funds. Hedge funds, which thrive on arbitrage opportunities, rarely hold a stock for a long time. With a view to monitoring investments through participatory notes, Sebi had decided that FIIs must report details of these instruments along with the names of their holders.

Tax Saving


Some of the entities route the investment through participatory notes can take advantage of the tax laws of certain preferred countries, who have Double Tax Avoidance Treaty  with India. For examble : A large number of FIIs who trade on the Indian stock markets through the Participatory Notes route operate from Luxemberg. According to Double Taxation Avoidance Act between India and Luxemberg, capital gains arising from sale of shares are taxable in the country of residence of the shareholder and not in the country of residence of the company whose shares have been sold. Therefore, a company based in Laxemberg selling shares of an Indian company will not pay tax in India. Since there is no capital gains tax in Mauritius, the gain will escape tax altogether. And FII’s investing in P-Notes from a country with no tax treaty with India are obliged to pay tax in India as per Income Tax Act.

Is it Safe to Invest in Companies With a Negative Net Worth?

A case of Negative net woth was making headlines recently in media when the company that operates the profitable Indigo Airlines reported a negative net worth. Inter Globe Aviation, which operates Indigo Airlines has remained profitable for around seven years and is now gearing up for an IPO to raise Rs. 3,200Cr. It may be making profit on a YoY basis, but on the B.S, its net worth has deteriorated significantly (Rs.-139.39 Cr) in the three months ended June 2015.

So, how important is this so called net worth, while taking an investment decision?

If you ask me this question, my answer would be that, I will not consider buying a stock whose debt is greater than shareholders equity. Companies that are having negative net worth will always find it difficult to obtain fresh financing or meet their liquidity needs.

The chances of Bankruptcy is one risk. High debt companies, according to most do not enjoy financial freedom and at times, if the situation worsens, it could push companies into making difficult choices. Highly indebted companies may be forced to sell profitable assets while keeping divisions that are not so profitable, why because they need money so urgently and there will be less takers for loss making businesses. Once they are done with it, then they may fail to develop new products or make fresh acquisitions, why because their lenders insist that the new planned spending would violate debt covenants.


So, should anyone consider buying these stocks? Personally, I will not recommend anyone, the only people who should consider negative-net-worth companies are professional investors and speculators. Investing in troubled companies is considered as a specialized art and for that one requires experience and good understanding of the target companies balance sheets and income statements.


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Minimum Alternative Tax

Minimum Alternative Tax

Minimum Alternative Tax is an addition to the Income Tax, levied by tax authorities. It was introduced in 1997-98 to prevent companies from using loopholes and exemptions in the Income Tax Act to avoid paying tax. So, MAT acts as a threshold tax rate. Every company has to pay tax at this rate of 18% even if its effective tax rate is lower. However, there has been confusion over whether MAT is applicable for capital gains by foreign investors in the Indian markets. Under the regime, companies are required to pay tax at a specific minimum rate if their effective tax rate comes out to be below the MAT rate after using the aforesaid incentives. The Before the introduction of MAT, companies were able to use creative ploys to completely avoid paying taxes by qualifying for these incentives. MAT was introduced to bring such companies back into the tax net.

Double Taxation Avoidance Agreements

Foreign institutional investors (FIIs) from countries with which India has double taxation avoidance agreements (DTAAs) that specifically exempt them from capital gains tax may escape minimum alternate tax (MAT) demands from the income tax department. “If there is an FII which has made investments from a country with which India has a tax treaty, it can present the facts while giving its reply to the income tax officer. It can explain the point and the tax officer will certainly take it into consideration. The treaty benefit will be applicable in this case.

India has DTAAs with 88 nations, of which 85 are in force. DTAAs with Mauritius, Singapore, Cyprus, France and the Netherlands exempt funds from capital gains tax in India, while those with the US, the UK and Luxembourg allow India to impose capital gains tax the way it wants to. FIIs from Cayman Island, Hong Kong and BVI may however continue to be hit by the MAT provisions as India does not have a tax treaty with these countries.

Why no exemption for DII’s

• MAT is levied on the book profit which FPI’s are not maintaining in India but DII’s are maintaining in India.
• FPI comes through P-Notes, which are issued outside India. The investor in P notes does not own any underlying Indian security, which is held by FII who issues P notes hence transactions are outside the review of SEBI. However, DII’s are holding the underlying Indian Security in which capital gains are taxable under Indian Law. Also DII’s comes under SEBI rules.

Income Disparity Is Not Malevolent

Income Disparity Is Not Malevolent
For centuries economists have pondered whether disparity is terrible or useful for long haul development. There are those who view it as a necessary “tool” to boost personal wealth, while there are those who think economic stability will remain shaky when income growth is not properly distributed.
On one hand, settled in imbalance undermines to make an underclass whose individuals’ insufficient training and low abilities abandon them with poor prospects for full interest in the economy as workers or customers. It can bring about political precariousness and in these manner stances dangers to speculation and development. Then again, some contend that in light of the fact that disparity puts more assets under the control of industrialists (rather than workers), it advances funds and venture and catalyzes development.

 

Above figure depicts differences in national income equality around the world as measured by the national Gini coefficient. The Gini coefficient is a number between 0 and 1, where 0 corresponds with perfect equality (where everyone has the same income) and 1 corresponds with absolute inequality (where one person has all the income, and everyone else has zero income).
IMF on the issue says – “Inequality tends to cause economic volatility. Sustainable economic reform is possible only when its benefits are widely shared.”

The IMF has strongly debunked the Okun theory which states that pursuing equality can reduce efficiency and not only can more equal distribution of incomes reduce incentives to work and invest, but the efforts to redistribute—through such mechanisms as the tax code and minimum wages—can themselves be costly.
Nouriel Roubini – Professor of economics at Stern School of Business says “Any economic model that does not properly address inequality will eventually face a crisis of legitimacy. Unless the relative economic roles of the market and the state are rebalanced, public protests will become more severe, with social and political instability eventually harming long-term economic growth and welfare.”
To understand more let me introduce the concept of Diminishing marginal utility of income. It suggests that as income increases, individuals gain a correspondingly smaller increase in satisfaction and happiness.
Utility means satisfaction, usefulness, happiness gained. Utility could be measured by the amount you are willing to spend on a good.
For example – let’s say you have zero income, and gain Rs 100 a week. This Rs 100 will improve your living standards significantly. With this Rs100 you will be able to pay for basic necessity of life – food, drink, shelter and heating. Without this basic Rs100 a week, life would be tough.
However, if you already gain Rs500 a week, an extra Rs100 has a proportionately smaller increase in utility. You may be able to eat out at restaurants more often, but it doesn’t significantly affect your standard of living and happiness. At Rs 500 a week, you can afford most things you need. But, still most people would be happy to gain an extra Rs 100 to spend on luxuries like going out.
If you are earning Rs 10000 a week – you would hardly notice an extra Rs100 a week. You may not even have time or ability to spend it; this extra income is liable to be just saved.

Therefore, we say the marginal utility of an extra Rs100 at this income level is very limited. As income increases, the extra marginal benefit to individuals declines.
Income inequality has different outcomes for life expectancy and mobility. It is not as simple as giving poor people some money so that they can educate their kids, and then those kids can get a nice job when they grow up and everybody lives happily ever after. Income inequality has implications for social mobility by either restricting, or maximizing or optimizing opportunities for social mobility for different segments of the society. Money impacts access to all these resources.
It is not morally important that everyone should have the same. What is morally important is that everyone should have enough.
What does it mean for a person to have enough?
A first step for a place like India is of course to make sure that people should have enough for today at least. This is more important than worrying about economic inequality in India. Of course, the rich should be encouraged to share their wealth, but by setting up disincentives for people to seek economic wealth, we run the risk that entrepreneurship will move offshore, tax evasion will increase and we will revert to the low rates of growth that we saw before the 1990s.
The point is that the same amount of money has different values, based on where you want to add it to.
The reason I say income inequality is not bad is because
1. Income inequality does not imply injustice or wrongdoing
2. Income inequality is a poor indicator of personal happiness or social welfare
3. The alternative to market-based distribution of income is coercion, which is incompatible with a free society
4. If someone works harder and as a consequence receives a higher wage then this is not market failure. The promise of a higher wage is essential to encourage extra effort. By rewarding hard work, there will be a boost to productivity leading to a higher national output – so everyone can benefit.
5. Inequality is necessary to encourage entrepreneurs to take risks and set up new business. Without the prospect of substantial rewards, there would be little incentive to take risks and invest in new business opportunities.
6. Trickle Down Effect. If some people gain extra income, then this can ‘trickle down’ to other people, e.g. if an entrepreneur sets up a business he may become a millionaire, but also will create jobs and provide incomes for other workers. There may be a gap between highest and lowest earners. But, the lowest earners are still better off than without the entrepreneur.
7. People deserve to keep higher incomes if their skills merit it. If a top cricketer gets paid Rs 1,00,000 a week, this is a reflection that people are willing to pay that kind of money to watch him.
8. Not all wealthy people spend their money on positional goods. Some wealthy people may use their wealth for philanthropy or set up new business, which creates employment. This can have benefits for the rest of society.
9. Higher wealth and income will lead to higher demand for luxury services, such as chauffeurs, gardeners, teachers. Therefore, this will create employment and push up wages for those who work in the service sector. This will benefit other people in society.
10. Also, even if the wealthy save money, you could argue, this gives banks greater funds to lend to small business or mortgages.

Conclusion
Of course I agree that we have to walk as slow as your slowest person to keep society moving. Societies do not face a choice between efficient production and equitable wealth and income distribution. When growth is looked at over the long term, the trade-off between efficiency and equality may not exist. In fact equality appears to be an important ingredient in promoting and sustaining growth.
While new research is challenging some traditional view that inequality is a necessary evil for a “dynamic” society, there are those who remain firm that it is never acceptable. The varying views and opinions mirror the great divide in terms of solutions ranging from moderate changes to very radical shifts.
Despite this, we’ve also discerned that great minds can unite when it comes to the more pressing issue – income distribution. In the words of Yugoslav economist and World Bank’s research head Branko Milanovic, “despite the impression that nothing more substantial can be said on the topic, economists and political philosophers have worked out, within fairly consistent frameworks, the ideas about what the optimal, or a better, distribution of income would be.

Small Investments Grow in a Big Way

Investing is one of the best ways for anyone to create wealth and become financially independent. A strategy of investing small amounts continuously can eventually result in what is referred to as the snowball effect, in which small amounts gain in size and momentum and ultimately lead to exponential growth.

To accomplish this feat, you must implement a proper strategy and stay patient, disciplined, and diligent. It is one of the great investing secrets.

Deflation and Falling Prices

Effects of Deflation

Deflation is defined as a sustained and broad decline in price levels in an economy over a period of time. Deflation is the opposite of inflation and is also different from disinflation, which represents a period when the inflation rate is positive but falling.

The biggest problem created by deflation is that it leads consumers to defer consumption, not with regard to the daily necessities of life like groceries, but for big-ticket items like appliances, cars, and houses. After all, the possibility that prices may go up is a huge motivator for buying big-ticket items (which is why sales and other temporary discounts are so effective).

You might think this is good news. After all, as wages and salaries stagnate, declining prices means an increase in people’s real purchasing power. Global commodity prices, including of crude oil, have corrected significantly and this augurs well for India, which has been struggling with high inflation for years. The fall in commodity prices is helping the overall policy stance of containing prices. While India is celebrating the disinflationary process, the decline in general price level, or slower than warranted increase in prices, is creating a fair amount of economic uncertainty in other parts of the world.

Problem with falling prices

Once consumer spending begins to decelerate, it has a ripple effect on the corporate sector, which begins deferring or slashing capital expenditures—spending on property, building, equipment, new projects, and investments. Corporations may also begin downsizing the workforce in order to maintain profitability. This creates a vicious circle, with corporate layoffs imperiling consumer spending, which in turn leads to more layoffs and rising unemployment. Such contraction in consumer and corporate spending can trigger a recession, and in the worst-case scenario, a full-blown depression.

There are actually three different reasons to worry about deflation, two on the demand side and one on the supply side.

• So first of all: when people expect falling prices, they become less willing to spend, and in particular less willing to borrow. After all, when prices are falling, just sitting on cash becomes an investment with a positive real yield and anyone considering borrowing, even for a productive investment, has to take account of the fact that the loan will have to repaid in rupee that are worth more than the rupee you borrowed. If the economy is doing well, all this can be offset by just keeping interest rates low; but if the economy isn’t doing well, even a zero rate may not be low enough to achieve full employment.
• And when that happens, the economy may stay depressed because people expect deflation, and deflation may continue because the economy remains depressed. That’s the deflationary trap we keep worrying about.
• A second effect: even aside from expectations of future deflation, falling prices worsen the position of debtors, by increasing the real burden of their debts. Now, it may look like a zero-sum affair, since creditors experience a corresponding gain. But usually debtors are likely to be forced to cut their spending when their debt burden rises, while creditors aren’t likely to increase their spending by the same amount. So deflation exerts a depressing effect on spending by raising debt burdens – which can lead to another kind of vicious circle, in which depressed spending because of rising real debt leads to further deflation.
• In a deflationary economy, wages as well as prices often have to fall – and it’s a fact of life that it’s very hard to cut nominal wages — there’s downward nominal wage rigidity. What this means is that in general economies don’t manage to have falling wages unless they also have mass unemployment, so that workers are desperate enough to accept those wage declines.

Conclusion

The lower than desired level of inflation is an indication of weak demand and weaker economic activity. But if prices begin to decline, economic activity will suffer even more. Consumers will postpone spending as things are likely to get cheaper at a later date. Firms will not invest in capacity expansion because of falling demand and lower expected returns on investment due to falling prices. Indebted companies and governments will cut investment and expenditure to repay debt, which will rise in real terms because of the falling revenue.

Overall, the economic activity will be hit and the economy will go into a downward spiral, affecting the level of output, income, employment and standard of living. Therefore, it is important for policymakers to avoid such a situation.