As an investor, have you ever wondered if you could diversify your portfolio by holding international shares of companies such as Twitter, Facebook, Walmart, etc.? These companies aren’t listed on the Indian Stock Exchanges. Then how can you add these shares in your portfolio? Read on and find below.
Before knowing that how can you invest in foreign stocks, it is relevant to know that why should you invest in foreign stocks. Let us highlight the advantages below:
The legendary investor Warren Buffet has famously quoted “Don’t put all your eggs in one basket”. It means you should not concentrate all your resources in one area, it is always wise to spread out your risk.Generally, one does not feel the need to diversify when the market is going up and your portfolio is showing green signal. However, when the domestic economy is underperforming, markets in some other part of the world may be doing well and strong performance of overseas market may help to offset weak performance of your domestic market. Therefore,awell-balanced portfolio can therefore save yourself from erosion of returns.
Currency Exposure and risk:
Investor in global equities will be benefitted if the domestic currency is depreciated relative to the foreign currency. This has been the scenario for investors investing in US equities since they have been continuously benefitted because of a depreciating Rupee. Thus, global exposure gives you an edge even in case of a falling Rupee.
Are you an investor with high risk appetite? Certainly, adding foreign stocks will mean taking higher risks. However, with high risk comes high returns. There are chances that you make extraordinary gains due to growing global markets.
If you have really made up your mind to invest in foreign stocks, let us list out the four avenues which will help you building up your foreign portfolio:
- The first way is to buy mutual funds that invest in stocks listed on exchanges outside India.
- The second way is to buy Exchange Traded Funds (ETFs) that invest in stocks listed on exchanges outside India. These are similar to mutual funds as mentioned above, the key difference only being the fact that they are traded on Indian stock exchanges like normal stocks.
- The fourth way is to direct buy a stock from a foreign exchange using your trading account. You will be required to intimate the RBI but the process is simple.
As an investor, you can invest upto$250,000 per year without the explicit permission of the Reserve Bank of India under the Liberalised Remittance Scheme (LRS).
How should you decide while going for a specific avenue?
It is important to know the tax treatment in each of the four avenues in order to know their viability.
International Mutual Funds (first route) and Global ETFs (second route) are treated like debt funds where long term capital gains tax (LTCG)of 20% is levied on a holding period of three years or above with indexation. The short term capital gains tax(STCG) is levied as per income tax slabs of an individual.
The third and the fourth route involve opening up of a different brokerage account which will allow you to buy stocks from a foreign exchange. Thus, there will be trading expenses involved along with LTCG tax without indexation for a holding period of more than one year.
Accordingly, if you want that your entire exposure should be in foreign stocks,but you do not want to handpick them, then you should go for ETFs listed there. However, if you want a portfolio consisting of both domestic and foreign stocks, then ETFs listed in India or international mutual funds are viable.
However, if you want to choose stocks yourselves, then certainly you can go for buying them directly from a foreign exchange. You will also be entitled to dividend from foreign companies, which would be considered as income and will be taxed at the highest slab rate.
Procedure to Invest in foreign equities
Open a trading account
- Just like you are required to open a trading account in India to trade in stocks listed on the NSE or BSE or any other stock exchange, similarly you have to open a trading account with an Indian broking house to invest in shares of foreign companies listed on foreign stock exchange.
- To facilitate this, an Indian broking house enters into a tie-up with a foreign broking house and acts as an intermediary and execute the trades on behalf of you in the foreign markets.
- The Indian broker will act as an introducing intermediary between you and the foreign broker. He will also assist you in completing the Know Your Client(KYC) requirements of the other country.
- The documents required to open the account along with the application form are Identity proof such as passport or pan card, residential address proof such as Voters ID card or latest bank statement as the documents required to open an account.
- Once your necessary details are registered, you will be provided the bank account details of the foreign broker to which funds are to be transferred. You will also get the contact details of the account executive who will take care of your account in case you require any kind of assistance.
- To transfer the funds to the foreign broker’s bank account, you will be required to submit an application cum declaration form under Liberalised Remittance Scheme.
- You will be required to submit Form A2 which would be available with your broker
- Sign a form for Foreign Exchange Management Act (FEMA) declaration.
- Form authorizing the bank to act as a designated dealer.
- You will also have to set a base currency in which all your transactions will be settled. So, if you choose your base currency to be USD, then stock exchanges will settle all your buying and selling transactions in USD.
- For trades on exchanges that do not accept USD, the foreign broker will convert your base currency i.e. USD into the currency of that country at the exchange rate and then execute the transaction.
- Once your account is opened and funds are transferred, you will be allowed to access your foreign brokerage account with a Client Id and a Password. You can now buy and sell shares of the listed foreign companies. Remember, all your trading and other transactions will be done directly with the foreign broker. The Indian broker will have no involvement in your transactions.
Opening of Demat Account
- Unlike while trading in domestic securities, you buy shares which get transferred in your demat account on a T+2 basis, here the shares bought buy you will be kept in a pooled account with the foreign brokerage’s custodian but will be reflected in your trading account.
Concluding, we would like to ensure that you do not forget the risks associated with investing in foreign equities! This is because investment in foreign equities is a risky bet and that a sound judgement is required on the investor’s part.
Foreign equities as already discussed provide the benefits associated with diversification and provide an effective hedge against currency fluctuations. However, the most important that needs to be kept in mind is the region which you are opting. So, in which regions you should invest?
Well, the type of geographical region you should go for depends upon the level of correlation the global markets exhibit with the Indian Markets. In this regard, it is markets of emerging economies which exhibit correlation with the Indian markets. Thus, markets such as US are good investment destination for Indian investors.
Another major risk associated with investing in foreign equities is the country risk. A minor change in the political environment of the country can significantly impact your investments.
What if the Indian currency appreciates relative to the foreign currency? You will loose your investments. Thus, there is a major currency risk while investing in foreign markets.
Further, you will be subjected to high transaction costs, say if you are trading in US stock markets, you will be transacting in USD.
Do you have adequate understanding of the global markets? It is completely absurd to rush behind foreign stocks simply because you cherish the brand name. A complete understanding of the company’s fundamentals along with global cues is what is required.