Sebi tightens norms for MFs, pledged shares to boost investor confidence

Market regulator says move aimed at restoring investor confidence

The Securities and Exchange Board of India (Sebi) on Thursday introduced more checks and balances for debt mutual funds (MFs) to secure investors and stem systemic risks.

The regulator, among other things, has increased security cover for loans against shares, brought down sectoral investment limits, and mandated certain schemes to have a fifth of their exposure in government securities (g-sec).

Defaults or payment deferments by high-profile corporate groups including Zee and DHFL have plagued the Rs 25-trillion MF industry.

“We don’t think we are late. The measures we have taken will help revive the confidence of investors, especially those investing in debt MFs,” said Ajay Tyagi, chairman, Sebi.

Tyagi criticised the move of certain fund houses to enter into the so-called standstill agreement with certain groups. Through the agreement MFs provided more leeway to certain promoters to meet their payment obligations.

“We don’t recognise any such standstill agreement. MFs are not banks and they are investing, not lending,” Tyagi said.

A debt scheme can invest up to 20 per cent of its assets instead of 25 per cent in one sector. Also, the additional 10 per cent exposure allowed in the case of housing finance companies (HFCs) has to be cut to 5 per cent. Further, all liquid schemes will have to deploy at least 20 per cent of their assets in liquid assets such as cash, government securities (g-secs), and Treasury bills.

Earlier, there was no such requirement.
 

The regulator has changed the valuation methodology for debt and money market instruments to mark-to-market, doing away with amortisation. 

“The move could lead to volatility in liquid schemes, but at the same time the regulator has taken a comprehensive view by ensuring enough liquidity and prudent risk-management norms in these sc­h­e­mes. Earlier, amortisation allowed uneven valuations of the same debt papers across schemes. Bringing mark-to-market for all securities will make sure that the risk is transparently reflected in schemes’ NAV on a daily basis,” said Mahendra Jajoo, head-fixed income, Mirae AMC. Further, Sebi has directed MFs to have cover of four times for loans against shares. Earlier the cover provided by MFs varied between 1.5 times and 2 times. 

Industry officials added tightening norms for liquid schemes could push investors to move towards larger schemes or larger fund houses. “The risk of higher volatility in daily NAV would make investors prefer larger-sized schemes due to their ability to absorb redemption pressure better,” said a fund manager.

Sebi didn’t disclose the amount of assets that would be affected by the new norms but said the MF industry was on board. Sebi also made announcements that included allowing technology companies to issue shares with superior rights on voting, tightening the disclosure requirements for pledged shares, and relaxing the ceiling for royalty payments.

To begin with, Sebi has said it will allow tech companies having superior right shares to come up with an initial public offering (IPO) and list. However, listed companies will not be permitted to issue fresh shares with superior rights. Also, such existing shares will have a sunset clause of five years and in some cases such as removing independent directors or related-party transactions, these shares will act as ordinary shares.

The approach taken by Sebi for allowing shares with differential voting rights (DVRs) are stringent, compared to what it has proposed in a discussion paper earlier this year. “DVRs have been successful in the US. But they are not yet tested in Asia. We have taken a cautious start to this,” Tyagi said.

Meanwhile, Sebi has relaxed the threshold for companies for paying brand usage or royalty charges.Earlier, the regulator wanted companies to seek approval of a majority of minority shareholders if such payments exceeded 2 per cent of the annual consolidated turnover. However, Sebi has now said such approval will be needed only if the royalty payments exceed 5 per cent.

Another key decision taken by Sebi was to tighten the disclosure around pledged shares. The regulator has said any promoter whose pledging exceeds 20 per cent of the shareholding or 50 per cent of the promoter shareholding will have to cite reasons for pledging shares. Further, the regulator has expanded the definition of pledged shares to ensure all forms of encumbrance are covered. Sebi has also provided key relaxations to insider trading norms to ensure the trade closure window doesn’t clash with corporate activity.

Key decisions
 

Debt MF tightening 
 

• Sectoral limit cut from 25% to 20%
• Additional exposure to HFCs cut from 15% to 10%
• Liquid schemes asked to invest at least 20% in G-secs, T-bills
• Exit load on liquid scheme investors for investments up to 7 days
• Security cover of 4 times for loan against shares

DVR framework
 

• Only tech firms to be allowed to issue shares with superior rights (SRs)
• SRs to have sunset clause of 5 years; SR ratio to be maximum 10:1 to ordinary shares
   

Pledged share disclosures
 

• Detailed disclosure if promoter pledging crosses 20% of total equity or 50% of promoter holding
• Definition of pledging widened to cover all types of encumbrance
   

Royalty norms

• Royalty threshold relaxed from 2% to 5%
• Cos whose royalty/brand usage payments exceed 5% of turnover need to seek minority shareholder approval
   

Insider trading norms
 

• Trade window to be relaxed for corporate activity such as block deals, QIPs