Market regulators SEBI new rules for mutual funds is said to be good news for every mutual funds investors in 2021, but seems to be bad news for mutual fund companies (AMC). You all have heard of this popular line either on television mutual funds or any other places that,
“Mutual Fund investments are subject to market risks, read all scheme related documents carefully”.
True in every sense but till now only for those who invest there money in it not the one’s who create those funds. However going forward even the mutual funds companies aka Asset management companies(AMC) will be keeping this in mind while offering every schemes.😎
Let us find out what exactly is happening below in detailed way step by step.
What is SEBI New Rules For Mutual Funds?
SEBI has laid out in its new mutual funds circular on April 28,2021 that “key employees of asset management companies i.e. mutual fund companies to invest about 20% of their salary in the schemes they run or oversee. They’ll have to tie it up for 3 years or for the duration of the scheme, whichever is shorter”.
What this means that through SEBI new rules for mutual funds it wants mutual fund companies to have skin in the game, earlier there were no such rules for fund managers and other senior official’s to have any personal money invested in schemes they launch hence no accountability how the fund performs in future but going forward from 01 July, 2021, things are going to change.
Such key employees of mutual fund companies including CEOs, CIOs, CROs along with the Compliance Officer, fund managers, sales head, and department heads among others have to pay 20% of the compensation (net of taxes and statutory contributions like PF and NPS).
Since 20% applies to net of tax and statutory deductions it is actually more like to say 12-13 % and this much of investment can be allocated to own fund created by a fund manager and his team.
SEBI has also mandated that such unit-based compensation will be locked-in for a minimum period of three years or the tenure of the schemes, whichever is lower.
This is not the first effort by the Securities and Exchange Board of India to force skin in the game. A few years back, the regulator made it mandatory that an AMC invest in all schemes it manages.
Many funds already mandate or encourage, as internal policy, investments in their own schemes, at least by top employees. At PPFAS Mutual Fund insiders own over 4.8 crore units that were worth Rs 203 crore as on Apr. 28, 2021, as published on the fund’s website.
While this skin-in-the-game may not guarantee performance, it is a fair principle that mutual fund companies should invest their money where they ask their investors to invest and demonstrate conviction to them.
As expected the sebi new rules for mutual funds is started facing backlash from fund manages community as they believe that this is a draconian rule.
To be honest most fund managers aren’t really that good at managing money and it’s probably why you’re seeing some backlash from the community.
According to this report from 2019, 82% of active large-cap funds have underperformed the S&P BSE 100 index, which includes the 100 largest Indian companies.
However, let us see why it is good for a retail investor who invest his hard earned money in mutual fund schemes through monthly SIP’s or Lumpsum.
Why SEBI New Rules For Mutual Funds is Good For Investors?
Let us understand through a very simple example, Suppose you want to start a new business but you are not sure about which business is best in ongoing market condition, hence you ask some of your friends about the same.
One of your friend told you that bout the upcoming boom in electric automobile industry business and he is thinking to start manufacturing the electric batteries but does not have any money.
He suggested you to be part of his business for battery making factory and invest your money in his project.
Another friend told you that he is going to start his business in electric 2 Wheler dealership in his area as there is huge demand. He already done good research about the margins, operation, cost, profit and overall break even analysis for the business.
However, that friend is lacking in some finance, he told you if you can invest 60% of money in the dealership, you can keep 70% of profits earned. So, what you are going to do in this case, investing all your money in a free suggestion given by one of your friend without any research or investing 60% of your money in dealership business which is well researched and have better profits.
Obviously as a normal human tendency you will go with the second one not only because of well researched but the risk is lesser as your friends own money is also invested.
You very well know that your friend will do anything possible to make the business flourish. This is what is called “Skin in the Game”.
When you have an accountability chances of performance may be better than when none. Whereas when you don’t have skin in the game, one simply do it without much seriousness and it is just like another job is done.
For example you do not like buying products and services without warranty, because it creates a sense of relief for you and accountability for company.
A soldier is likely to follow a general if the general is leading from the front. In game of cricket also you know a captain gets fined for slow over rate because of this rule any team captain tries to make the over in definite time period.
Your incentives and penalties have to line up with those you intend to work with. This SEBI new rules for mutual fund companies does not came overnight, Recently the Franklin Templeton Mutual Fund fiasco in which six debt schemes were wound down on account of investments gone bad created a very negative example for investors.
One of the reports alleges that the fund managers, in this case, took on unreasonable amounts of risks, acted carelessly, and pulled out their money when things took a turn for the worse.
A few days later they cut down the funds leaving hundreds and thousands of investors stumbled. There were no consequences for their actions. No penalties, no harm, and no damage done.
Therefore better late then never market regulator took this decision and brought amendment for AMC’s.
Conclusion:
Just like after the issues at Karvy, BMA, the SEBI have tried bringing strict rules in last 1 year to make trading and investment more transparent such as stopping the mandate use of POA(Power of Attorney) is one of them.
Likewise the margin or leverage that many brokers used to give it to their clients for intraday products such as in equity cash segment or futures and option (Equity, Currency, Commodities) segment got exponentially reduced due to SEBI new rules for intraday margin in cash and derivatives.
Overall, yes this SEBI Latest Circular On mutual fund companies might impact fund managers and other key employees at one level, and the key stakeholders in the industry want the rule gone. But this was much needed to safeguard the investors and to fix the accountability as well as the overall market.
SEBI bought this new mutual funds and other rules to make the system more transparent and less risky for retail investors, this was needed to avoid happening any other franklin like incident in future.
At the end, I hope you have thoroughly understood how this rules by sebi on mutual funds will impact you while you are going to invest your money in mutual funds in future.
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