Imagine that you are a multi-millionaire based in the U.S. and are looking for your next investment opportunity. You are trying to decide between (a) acquiring a company that makes industrial machinery, and (b) buying a large stake in a company or companies that makes such machinery. The former is an example of direct investment, while the latter is an example of portfolio investment.
Now, if the machinery maker were located in a foreign jurisdiction, say Mexico, and if you did invest in it, your investment would be considered as FDI. As well, if the companies whose shares you were considering buying were also located in Mexico, your purchase of such stock or their American Depositary Receipts (ADRs) would be regarded as FPI.
Although FDI is generally restricted to large players who can afford to invest directly overseas, the average investor is quite likely to be involved in FPI, knowingly or unknowingly. Every time you buy foreign stocks or bonds either directly or through ADRs, mutual funds or exchange-traded funds, you are engaged in FPI. The cumulative figures for FPI are huge. According to the Investment Company Institute, for the week ended December 23, 2013, domestic equity mutual funds had inflows of $254 million, while foreign equity funds attracted six times that amount, or $1.53 billion.