Foreign Portfolio vs. Foreign Direct Investment: An Overview

Foreign investment, quite simply, is investing in a country other than your home one. It involves capital flowing from one country to another and foreigners having ownership or a say in business. Foreign investment is generally seen as a catalyst for economic growth and can be undertaken by institutions, corporation, and individuals.

When making foreign investments, investors have to consider economic factors as well as other risk factors, such as political instability and currency exchange risk. These factors can be used to decide if an investment should be direct or through a portfolio.

Foreign Direct Investment

Foreign direct investment (FDI) involves establishing a direct business interest in a foreign country, such as buying or establishing a manufacturing business, building warehouses, or buying buildings.

Foreign direct investment tends to involve establishing more of a substantial, long-term interest in the economy of a foreign country. Due to the significantly higher level of investment required, foreign direct investment is usually undertaken by multinational companies, large institutions, or venture capital firms. Foreign direct investment tends to be viewed more favorably since they are considered long-term investments, as well as investments in the well-being of the country itself.

At the same time, the nature of direct investment, such as creating or acquiring a manufacturing facility, makes it much more difficult to liquidate or pull out of the investment. For this reason, direct investment is usually undertaken with essentially the same attitude as establishing a business in one's own country—with the intention of making the business profitable and continuing its operation indefinitely. Direct investment includes having control over the business invested in and being able to manage it directly, but it also involves more risk, work, and commitment.

Foreign Portfolio Investment

Foreign portfolio investment (FPI) refers to investing in the financial assets of a foreign country, such as stocks or bonds available on an exchange. This type of investment is at times viewed less favorably than direct investment because portfolio investments can be sold off quickly and are at times seen as short-term attempts to make money, rather than a long-term investment in the economy.

Portfolio investment typically has a shorter time frame for investment return than direct investment. As with any equity investment, foreign portfolio investors usually expect to quickly realize a profit on their investments.

Unlike direct investment, portfolio investment does not offer control over the business entity in which the investment is made.

As securities are easily traded, the liquidity of portfolio investments makes them much easier to sell than direct investments. Portfolio investments are more accessible for the average investor than direct investments because they require much less investment capital and research.

Key Takeaways

  • Foreign direct investment is building or purchasing businesses and their associated infrastructure in a foreign country.
  • Foreign portfolio investment is purchasing securities of foreign countries, such as stock and bonds, on an exchange.
  • Direct investment is seen as a long-term investment in the country's economy, while portfolio investment can be viewed as a short-term move to make money.
  • Direct investment is likely only suitable for large corporations, institutions, and private equity investors.