In order to ensure that index funds and exchange-traded funds (ETFs) closely mirror their benchmark indices, the Securities and Exchange Board of India (SEBI) has proposed a minor adjustment. The proposal aims to eliminate the restriction that limits these funds to invest up to 25 percent of their net assets in group companies or sponsors. Essentially, SEBI suggests that index funds and ETFs should be allowed to invest in listed companies’ shares belonging to group companies of the sponsor, in accordance with their benchmark indices. This proposed relaxation forms a part of SEBI’s initiatives to facilitate business operations for mutual funds, as outlined in a consultation paper released on February 23. SEBI has formed working groups to provide recommendations across various areas of the capital market it regulates, with the aim of making business operations smoother for entities like mutual funds. The consultation paper released on February 23 represents one such recommendation from a working group.
It’s important to note that mutual fund schemes cannot invest arbitrarily in underlying shares and bonds of companies. For instance, no scheme can allocate more than 10 percent of its Net Asset Value (NAV) to shares of any single scrip. Additionally, the total exposure of a scheme to listed equity shares of group companies of the sponsor must not exceed 25 percent of its net assets. However, SEBI rules for index funds and ETFs allow a single company to have a maximum weight of 35 percent in a sector/thematic benchmark index. In order to facilitate passive funds in replicating their benchmark indices more accurately, SEBI has proposed relaxing the 25 percent upper cap restriction for such funds.
SEBI has also suggested easing the requirement of having a separate and dedicated fund manager for schemes overseeing gold, silver, and other commodities, as well as foreign investments. SEBI has observed that maintaining dedicated managers for schemes diversifying into such assets may incur additional costs. Moreover, fund houses may already have dedicated research analysts tracking such asset classes within their teams. Hence, SEBI proposes that a dedicated fund manager might not be necessary for tracking commodities and foreign investments, as outlined in its consultation paper. Additionally, SEBI has proposed making nominations optional for jointly-held mutual fund folios. The working group, tasked with recommending measures to improve the ease of doing business for mutual funds, has suggested to SEBI that since the second holder takes precedence over a nominee as a legal heir, making nominations optional for jointly-held folios would alleviate the burden of requiring consent from all joint holders to approve or change a nominee, which was deemed cumbersome.
SEBI has invited comments or suggestions on these proposals by March 15.
