Intimidating as it may sound, mutual funds is no rocket science. Defined in simple terms, mutual funds are a kind of investment where a fund manager uses the money of their clients in order to invest in stocks, bonds and other types of investment. Of course, the fund manager does it in lieu of some commission.
Until the mid of September, the Multi-cap funds (diversified mutual funds which can invest in stocks across market capitalization), had only one condition to adhere to , which was that they needed to have at least 65% of their funds parked in equities as per the guidelines laid down by the principal regulator. It was left on the discretion of the fund manager to decide how much of the scheme assets would go to large caps, mid caps and small caps and in fact they loved it as they had the liberty to take the most optimum decision in the best interest of the investors. Given a choice, naturally, most of the investment would be directed towards large cap stocks, the reason being that they are better placed to weather the economic slump than the small cap stocks.
In September, Securities Exchange Board of India (SEBI), altered the minimum allocations in multi-cap funds to make them more true-to-label. They came out with a circular wherein the multi-cap funds should allocate 25% of their corpuses each in the different market capitalization schemes, large-cap stocks, midcap and small cap stocks (which means at least 75% of funds should be invested in equities) by January 2021. This lead to a ripple of protests in the mutual fund industry. It made the fund managers blood run cold. Fund managers opposed this scheme which would have made them shift a large chunk of their portfolio in larger cap stocks to midcap and small caps. They feared the rush to make mandatory purchases of illiquid smaller stocks to meet the norms which would lead to a rally in these stocks and be detrimental to the multi-cap investors.
In first week of November, SEBI decided to introduce- ‘Flexi-cap fund’, giving the asset managers more leeway on the composition of equity schemes. The key takeaway include:
a. It brought about a considerable relief to fund houses which operated multi-cap schemes after the capital market regulator tightened investment norms for this category.
b. Drawing similar features from the earlier scheme, it also requires the managers to maintain at least 65% in equity and other equity related instruments, giving fund managers the flexibility to invest in a mix of large, midcap and small cap stocks.
What could possibly be the rationale behind SEBI restricting the liberty of the asset managers by introducing the 25% scheme, creating rally in the small and mid caps, eventually returning to square one reinstating the discretion of the asset managers? Do you consider such avoidable turbulence created by SEBI between the investors and managers worthwhile? Undoubtedly, it is a well preferred scheme and the fund managers have welcomed it with open arms. However, if the market regulator wanted to leave the liberty of allocation in the hands of the fund managers itself, introducing the 25% scheme was indeed of no use.