The Securities and Exchange Board of India (SEBI) recently introduced new rules for multi-cap funds, aiming to enhance transparency and investor protection. In this article, we’ll delve into the SEBI guidelines for multi cap mutual funds changes, their implications, and provide guidance for investors.
About SEBI
The Securities and Exchange Board of India (SEBI) is the regulatory authority for the securities and capital markets in India, established in 1988 and granted statutory powers in 1992. It operates under the SEBI Act, 1992, with the primary objective of protecting investors’ interests, ensuring market transparency, and promoting the orderly growth of the securities market. SEBI regulates and supervises stock exchanges, brokers, mutual funds, and other market participants. It enforces compliance with financial norms, prevents malpractices, and fosters a secure trading environment. By introducing innovative policies and technology, SEBI plays a pivotal role in shaping India’s financial ecosystem.
Previous SEBI rules for multi-cap mutual funds
Before the recent changes, SEBI rules for multi-cap funds operated under certain guidelines. Let’s briefly recap what those were:
- Minimum allocation to equities: Previously, multi-cap funds were required to allocate a minimum of 65% of their assets to equities.
- Market capitalisation allocation: There were no specific rules regarding allocation across different market capitalizations (large-cap, mid-cap, and small-cap).
New SEBI rules for multi-cap funds
The revised SEBI guidelines for multi cap mutual funds introduce two significant changes:
1. Increased minimum allocation to equities
- Old rule: Minimum 65% allocation to equities.
- New rule: Minimum 75% allocation to equities.
This change aims to ensure that multi-cap funds maintain a higher exposure to equities, potentially benefiting investors during market upswings.
2. Defined minimum allocation in each market capitalisation
- New rule: Multi-cap funds must now allocate a minimum percentage of their assets to each market capitalization category (large-cap, mid-cap, and small-cap).
Areas of concern highlighted by SEBI
SEBI’s clarification highlighted three key areas of concern:
- Lack of noteworthy diversification in most multi-cap funds: Some funds were heavily skewed towards specific stocks or sectors, compromising diversification.
- Divergence in scheme names and nature: Certain funds had names suggesting a particular investment style (e.g., “large-cap” or “mid-cap”), but their actual holdings didn’t align with these labels.
- Use of appropriate benchmarks: SEBI emphasised the importance of selecting relevant benchmarks for performance evaluation.
Fund houses’ responses after SEBI rules for multi-cap funds
Fund houses have offered detailed counterarguments to SEBI’s observations, addressing key points regarding diversification, scheme names, and benchmark selection.
- Lack of noteworthy diversification:
SEBI raised concerns about the absence of significant diversification in certain mutual fund portfolios. Fund managers have countered this by explaining that diversification is not solely about holding a large number of stocks. Instead, they argue, concentrated portfolios can also achieve robust performance if they are carefully constructed and backed by in-depth research. For instance, a portfolio focusing on a smaller set of well-researched high-performing stocks may deliver strong returns, as opposed to one diluted by including a higher number of average-performing assets. Fund houses emphasise that effective diversification is more about the quality of stock selection rather than quantity. - Divergence in scheme names:
SEBI also highlighted the potential disconnect between scheme names and their actual portfolio composition. Fund houses argue that scheme names primarily serve as marketing tools to attract investors by conveying the fund’s overarching theme or strategy. They assert that while the name may not fully describe the portfolio's content, it is intended to give investors a general idea of the fund's investment focus. To address investor concerns, fund houses suggest greater transparency in communication through detailed scheme documents, ensuring that investors have a clear understanding of the fund's objectives and holdings. - Appropriate benchmarks:
On the issue of selecting benchmarks, SEBI has questioned the relevance of some benchmarks to fund performance. Fund managers contend that benchmark selection is subjective and varies depending on the fund's specific investment strategy. For example, a fund focusing on mid-cap stocks may choose a mid-cap index as its benchmark, while a diversified equity fund may select a broader market index. Fund houses believe that flexibility in benchmark selection allows for better alignment with the fund’s objectives and strategy.
These responses demonstrate fund houses' commitment to balancing regulatory concerns with their investment methodologies.
Implications of SEBI’s new rules
- Portfolio rebalancing: Fund managers will need to adjust their portfolios to meet the increased equity allocation requirement. This could lead to selling some existing holdings and buying more equities. Investors should be prepared for potential changes in their fund’s composition.
- Market capitalisation allocation: The new rule mandates a minimum allocation to each market capitalisation category. Fund managers will need to strike a balance between large-cap, mid-cap, and small-cap stocks. Investors should assess how this impacts the fund’s risk-return profile.
- Performance expectations: With higher equity exposure, multi-cap funds may experience greater volatility. Investors should align their expectations accordingly. Historically, multi-cap funds have provided a blend of growth and stability, but individual results can vary.
- Scheme renaming and communication: Fund houses may rename their schemes to better reflect their investment approach. Investors should pay attention to these changes and understand how they align with their own investment goals.
- Benchmark selection: Choosing appropriate benchmarks becomes crucial. Investors should evaluate whether the selected benchmark accurately represents the fund’s investment universe. A mismatch could lead to misleading performance comparisons.
- Investor behaviour: As the rules encourage more equity exposure, investors might react differently during market fluctuations. Some may become more risk-averse, while others may seek higher returns. Understanding your risk tolerance is essential.
Investor action steps
- Review your portfolio: Check if your existing multi-cap fund complies with the new rules. If not, consider rebalancing or switching to a fund that adheres to the guidelines.
- Understand fund strategies: Look beyond the fund’s name. Understand its investment philosophy, sector preferences, and historical performance. Does it align with your long-term goals?
- Risk assessment: Assess your risk appetite. Multi-cap funds can offer diversification, but they also carry market risks. Ensure your portfolio aligns with your risk tolerance.
- Stay informed: Keep track of fund updates, manager commentaries, and any further clarifications from SEBI. Being informed empowers you to make better investment decisions.
Remember, while regulatory changes can create short-term uncertainties, a well-thought-out investment strategy remains the key to long-term success. Consult a financial advisor if needed, and stay focused on your financial objectives. Incorporating multi-cap mutual funds into your investment strategy, either as a lump sum investment or a SIP investment, can be a versatile approach to achieve your comprehensive financial goals, according to the principles outlined in their respective key information memorandums.
What should you do as an investor in Multi cap funds?
As an investor in multi-cap funds, you should first assess your risk tolerance and financial goals, as these funds invest across large-cap, mid-cap, and small-cap stocks, exposing you to varying levels of risk and reward. Analyse the fund's portfolio allocation and ensure it aligns with your investment objectives and market outlook.
Evaluate the fund's historical performance, the fund manager’s expertise, and the consistency of returns across market cycles. Diversification is a key advantage of multi-cap funds, but it's crucial to review how the fund adjusts its allocation based on market trends.
Regularly monitor the fund's performance and re-evaluate its role in your portfolio. Multi-cap funds are ideal for long-term investors, as they benefit from the potential growth of mid-cap and small-cap stocks while maintaining stability through large-cap investments. Stay informed about market conditions and consult a financial advisor to make well-informed decisions.
Bottom line
The new SEBI guidelines for multi cap mutual funds aim to enhance investor protection and promote better fund management. Investors should stay informed and make informed decisions based on their risk tolerance and investment objectives. With the new SEBI guidelines for multi cap mutual funds it's essential to conduct thorough research or consult with a financial advisor to make the best decision for your financial future. Ensure that you invest in instruments offered by trusted Asset Management Companies (AMCs). Going through the Bajaj Finserv Mutual Fund Platform, which offers access to 1000+ mutual funds, makes it easier for investors to choose the right mutual funds hassle-free.
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Disclaimer
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The information contained in this article is for general informational purposes only and does not constitute any financial advice. The content herein has been prepared by BFL on the basis of publicly available information, internal sources and other third-party sources believed to be reliable. However, BFL cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed.
This information should not be relied upon as the sole basis for any investment decisions. Hence, User is advised to independently exercise diligence by verifying complete information, including by consulting independent financial experts, if any, and the investor shall be the sole owner of the decision taken, if any, about suitability of the same.
