What’s the buzz around Sebi’s ‘new asset class’?

India's market regulator has floated a plan to roll out a new ‘investment strategy’ that will lie between mutual funds and portfolio management services. So, what is this ‘new asset class’?

Capital markets regulator Securities and Exchange Board of India (Sebi) has floated a proposal to introduce a new asset class that will seek to bridge the gap between mutual funds (MFs) and portfolio management services (PMS) in terms of flexibility in portfolio construction.

The current range of investment products, with varying risk-reward profiles, are intended to meet the investment needs of retail, high net-worth and institutional investors.

These include MF schemes that are retail oriented with a low ticket size; PMS with a ticket size of ?50 lakh; and alternative investment funds (AIFs) with a minimum investment value of ?1 crore.

The new asset class, under the MF framework, proposes a minimum investment of ?10 lakh.

What is the need for a new asset class?

On the rationale for the proposal, Sebi said that over the years, a notable opportunity of a new asset class has emerged between MFs and PMS. The absence of such an investment product appears to have inadvertently propelled investors in this segment towards unregistered and unauthorized investment schemes/entities.

Such schemes/entities often promise unrealistically high returns and exploit investors’ expectations for better yields, leading to potential financial risks.

Sebi said the new regulated investment product is aimed at curbing the proliferation of similar unregistered and unauthorized products and will offer higher risk-taking capabilities and a higher ticket size.

Considering that the new asset class is intended to have a risk-return profile between MFs and PMS, the proposed regulatory framework needs to accordingly enable?? higher risk-taking than MFs, while containing commensurate safeguards and risk mitigation measures.

At no point in time should the total invested amount of an investor fall below ?10 lakh due to actions of the investor such as withdrawals or systematic transactions. However, the total amount may fall below ?10 lakh due to depletion in the value of investments, Sebi proposed.

Who can offer the new product?

Only those mutual fund houses that are in operation for a minimum of three years and have average assets under management not less than ?10,000 crore in immediately preceding 3 years will be allowed to offer the product.

Newly registered MF houses will also be eligible to launch the new asset class provided they fulfil certain conditions.

What does Sebi propose we call this ‘new asset class’?

Sebi also proposed to name the product as “investment strategies”.? To be sure, products launched under MFs are called ‘schemes’, whereas products offered under PMS are usually termed ‘investment approaches.’

The redemption frequency of these ‘investment strategies’ can be tailored (daily/weekly/fortnightly/monthly/quarterly/annually/fixed maturity) based on the nature of investments to allow the investment manager to adequately manage liquidity without imposing undue constrains on investors, the regulator said.

Has Sebi proposed any ‘investment strategies’?

For starters, the regulator has also proposed two investment strategies: long-short equity fund and inverse exchange traded fund.

A long-short equity fund seeks to deliver returns by taking long and short positions in equity and equity-related instruments. For instance, the fund may be bullish on auto sector and bearish on the IT sector, and may invest in both these sectors by going long on automobile sector and short on IT sector.

An inverse exchange traded fund, on the other hand, will seek to generate returns that are negatively correlated to the returns of the underlying index.

Inverse funds, often referred to as bear funds, are specialized investment vehicles designed to profit from a decline in the value of an underlying benchmark or asset class. In Australia, as in other markets, these funds use derivatives such as futures and swaps to achieve their investment objectives, offering investors a way to hedge against market downturns or to speculate on market declines.

The ‘investment strategies’ may invest in derivatives or derivative strategies as a way of taking exposure in the market. The cumulative gross exposure through all investable instruments including derivatives and any other instruments as may be permitted by Sebi from time to time should not exceed 100% of the net assets of the investment strategy, Sebi added.

The units of the investment strategies may also be listed on the recognized stock exchanges, particularly for units of investment strategies with redemption frequency greater than a week.

Sebi has invited public comments on the proposal latest by 6 August 2024.

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