Mutual Funds: Sebi floats MF Lite Regulations for passive fund managers. Top points here

Capital market regulator SEBI has proposed to bring in a lighter version of mutual fund (MF) regulations for ‘passive only’ fund houses, wherein it would reduce the net worth and profit track record criteria for companies. 

The new guidelines are specifically meant for the fund houses that exclusively offer passive investment options like Exchange-Traded Funds (ETFs) and index funds.

Sebi, in a consultation paper issued on Monday, stated the entities registered under MF Lite may not be allowed to do any asset management business activity.

It has proposed that the ‘sponsor’ must have a positive net worth in all of the immediately preceding five years and should have registered net profit in three out of the immediately preceding five years. The average profit in the last five years needs to be at least ₹5 crore.

The minimum net worth is proposed to be Rs 35 crore, and it can be bought down to Rs 25 crore in case it has profit for five consecutive years. Market participants can give their views before July 22.

“Considering the lesser risk inherent in managing passively managed MF schemes, the proposed MF Lite Regulations intend to reduce the compliance requirement, foster innovation, encourage competition and promote ease of entry for the MFs interested in launching only passive schemes,” Sebi said.

The regulator also plans to introduce new categories in the passive space, as per the consultation paper shared by Sebi.

MF Lite has proposed to introduce three sets of hybrid passives. These include:

  1. Debt-oriented set with a ratio of Equity to Debt at 25:75.
  2. Balanced set with a ratio of Equity to Debt at 50:50.
  3. Equity-oriented set with a ratio of Equity to Debt at 75:25.

If the proposals are approved, fund houses will have the opportunity to introduce exchange-traded funds (ETFs) and index funds within the hybrid space. In addition, the regulator has suggested the potential launch of closed-ended target maturity funds. Currently, mutual funds (MFs) do not have the ability to offer passive hybrid funds, and target maturity funds can only be offered in an open-ended structure.

The relaxation of rules under MF Lite encompasses various aspects including lowering net worth and profitability criteria for sponsors and asset management companies (AMCs), as well as reducing reporting requirements. Under MF Lite, to be considered eligible as a sponsor based on the primary criteria, a company must have generated a minimum profit of at least Rs 5 crore in the preceding three out of the past five years. The current regulation mandates a minimum profit of Rs 10 crore in each of the preceding five years for eligibility.

For Asset Management Companies (AMCs), there are proposed changes to the minimum net worth requirements. Currently, the minimum net worth required is Rs 50 crore, but it is suggested to be reduced to Rs 35 crore. The AMC can further decrease the net worth to Rs 25 crore once it achieves profitability for five consecutive years. However, if the sponsor chooses the alternative eligibility route, they must maintain a minimum net worth of Rs 75 crore for the AMC.

Additionally, passive-only AMCs will now be permitted to conduct up to 10 per cent of transactions through associated brokers, an increase from the previous limit of 5 per cent. Furthermore, the minimum combined experience required for the Chief Executive Officer (CEO), Chief Operating Officer (COO), Chief Compliance Officer (CCO), and Chief Investment Officer (CIO) of passive-only AMCs is set to be reduced to 20 years from the current requirement of 30 years.

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