SEBI Extends Deadline for Mutual Fund Risk Management Framework and Dual Benchmarking. Here’s Why…

In October 2021, SEBI had revised the Risk Management Framework for mutual funds. Under the new framework, SEBI outlined a comprehensive guideline for managing the key scheme-specific risks such as governance risk, investment risk, liquidity risk, credit risk, etc., as well as AMC-specific risks such as operational risks, cyber risks, reputation and conduct risks, sales and distribution risks, etc., click here to read it in detail.

The new framework is segregated into 'mandatory elements' that every Asset Management Company (AMC) will implement, and 'recommendatory elements' that the AMCs can consider implementing. With this, SEBI aims to ensure that mutual funds render, at all times, high standards of service, exercise due diligence, ensure proper care in their operations, and protect the interest of investors.

The framework will require mutual fund houses to perform a self-assessment of their risk management framework and submit a report to their Board along with the roadmap for the implementation of the framework.

(Image source: www.freepik.com - photo created by DCStudio)

Similarly, SEBI had recently prescribed a dual benchmarking structure for mutual funds to bring uniformity in the benchmark of schemes within a particular category.

As per SEBI's circular, the first-tier benchmark will reflect the category of the scheme viz. Large-cap, Mid-cap, Multi-cap, etc., while the second-tier benchmark will demonstrate the investment style/strategy of the fund manager within the category - for instance, growth, value, or any other particular strategy within the broader category, etc.

AMFI has notified the indices to be followed by the AMCs for various scheme categories as first-tier benchmark. The second-tier benchmark is optional and can be decided by the AMC depending on the investment strategy/style of a particular scheme.

The move is expected to give investors a realistic picture of the performance of schemes within a particular category. Additionally, it will facilitate comparison of alpha generated by the schemes over a certain period. On the other hand, the optional second-tier benchmark will give an idea about the investment strategy/style as well as the asset allocation that the scheme will follow. It can also be used to make deeper analysis of the scheme's performance relative to another scheme following similar strategy/style.

The Risk Management Framework may require some mutual fund houses to make significant changes in their day to day systems and processes. On the other, the dual benchmarking norms will require several mutual fund schemes to shift to a new benchmark. Consequently, mutual fund houses, through AMFI, have sought more time to implement the new norms.

Meanwhile, SEBI has provided an update on securities held in the pool accounts at the mutual fund level. Earlier, SEBI had stipulated that the assets and liabilities of each scheme should be segregated and ring-fenced from other schemes of the mutual fund. In addition, bank accounts and securities accounts of each scheme should be segregated and ring-fenced. This rule is aimed at bringing more transparency in the transactions of mutual funds.

However, the mutual fund industry highlighted that certain transactions are carried out only at mutual fund level for operational ease and due to certain regulatory requirements but they are duly segregated scheme-wise and appropriately reflected in the books of the respective schemes, at the end of the day.

Accordingly, SEBI has permitted mutual funds to use pool accounts only for transactions that are executed at the mutual fund level owing to certain operational and regulatory requirements.

To conclude

SEBI has taken various measures in the last couple of years to make mutual fund schemes more transparent in its transactions and compel mutual fund houses to become more accountable for their actions.

As an investor, you too should exercise caution while selecting mutual fund schemes for your portfolio. Before shortlisting any scheme, evaluate the performance on various quantitative and qualitative parameters. Choose a scheme that has performed consistently well when compared to the category peers and the benchmark, as well as follows robust investment processes with adequate risk management systems in place.

PS: If you are looking for quality mutual fund schemes to add to your investment portfolio, I suggest you subscribe to PersonalFN's premium research service, FundSelect. At PersonalFN, we select and recommend mutual funds based on quantitative and qualitative parameters using our S.M.A.R.T Score Matrix:

• S - Systems and Processes

• M - Market Cycle Performance

• A - Asset Management Style

• R - Risk-Reward Ratios

• T - Performance Track Record

PersonalFN's FundSelect service provides insightful and practical guidance on which mutual fund schemes to Buy, Hold, and Sell. Currently, with the subscription to FundSelect, you could also get Free Bonus access to PersonalFN's Debt Fund recommendation service DebtSelect.

If you are serious about investing in a rewarding mutual fund scheme, subscribe now!

Warm Regards,
Divya Grover
Research Analyst

Join Now: PersonalFN is now on Telegram. Join FREE Today to get ‘Daily Wealth Letter’ and Exclusive Updates on Mutual Funds