New Delhi: Worried over valuation losses at the Indian stock exchanges, the central government Sunday allowed qualified foreign investors (QFIs) to directly invest in equity markets to decrease volatility.

"In a major policy decision, the central government has decided to allow qualified foreign investors (QFIs) to directly invest in Indian equity markets in order to widen the class of investors, attract more foreign funds, and reduce market volatility and to deepen the Indian capital market," a finance ministry statement said.

The distinction of a QFI ranges from an individual to a group of investors that comply with the international standards of the financial action task force (FATF).

The move is also important because currently only foreign institutional investors or sub-accounts (FIIs/sub-accounts) and non-resident Indians (NRIs) were allowed to directly invest in equity markets.

"As a first step in this direction, QFIs have been permitted direct access to Indian mutual funds schemes pursuant to the 2011-12 budget announcement. As a next logical step, it has now been decided to allow QFIs to directly invest in Indian equity market in order to widen the class of investors, attract more foreign funds, and reduce market volatility."

The significant step comes after the country's equity markets saw a huge plunge because FIIs, who had pumped the market in 2010 with a net investment of $29.36 billion in equities and $10.11 billion in debt instruments, turned net sellers in 2011.

Their net sales were worth $357.8 billion in equity and $3.4 billion in debt.

Due to this, the 30-share sensitive index (Sensex) of the Bombay Stock Exchange (BSE), which stood at 20,389.07 points as on Dec 30, 2010, lost a whopping 4,934.15 points during 2011 to close at 15,454.92, with a loss of 24.20 percent.

The story was similar At the National Stock Exchange (NSE) with the S&P CNX Nifty ending 2011 at 4,624.30 points, against 6,134.50 points at the close of 2010, with a loss of 1,510.20 points, or 24.1 percent.

At the BSE, the Sensex had gained 17.43 percent in 2010 and 81.03 percent in 2009, in what was its best performance since 1999, after losing 52.45 percent the year before, when it logged the third worst performances among indices in emerging markets.

For many FIIs, economic woes in their home markets, especially due to the European debt crisis and a perceived policy paralysis in India following a string of scams, exacerbated their pull-out.

A Reserve Bank of India (RBI) estimate says that a 10 percent fluctuation in FII investment results in a 35 percent variation in stock prices.

The QFIs would be allowed to invest in the equity markets through the Securities and Exchange Board of India (SEBI)-registered qualified depository participants (DP).

"A QFI shall open only one demat account and a trading account with any of the qualified DP. The QFI shall make purchase and sale of equities through that DP only.Upon receipt of instructions from QFI, DP shall carry out the transactions (purchase/sale of equity)."

The statement added that the SEBI and the Reserve Bank of India (RBI) are expected to issue relevant circulars to operationalise the scheme by Jan 15, 2012.