The capital market regulator SEBI is expected to roll out stringent product criteria for new players entering the mutual fund business through the MF Lite regulations.
To encourage more entrants into passive asset management, SEBI issued a consultation paper to reduce the networth and profit track record criteria for companies interested only in managing assets passively.
Existing fund house can hive off their passive business and register under MF Lite Regulations.
While entry into passive asset management looks easy, it is going to be difficult for newcomers to sustain themselves without product diversification and a sustainable business model, said an executive of MF house.
The new entrants under MF Lite will not be allowed to launch exotic passive smart beta funds and thematic index funds as they carry higher risk than the plain vanilla broader index funds, he added.
Passively managed MF schemes, such as index funds and ETFs, replicate an underlying index, and portfolios of index funds can be easily tracked. In contrast, active fund schemes require expert fund managers who define investment philosophy and select securities.
Some popular smart beta strategies include equal weight in Nifty and Nifty500 and a narrow theme of investing equally only in the top-10 and top-15 stocks of the Nifty index and Nifty tourism fund.
Many smart beta funds can definitely deliver better returns, but the drawdowns will be much higher in bearish markets, unlike in active funds, where fund managers juggle the portfolio to minimise losses, said an analyst.
The regulator will definitely have checks and balances to protect first-time investors venturing into mutual funds through these risky passive funds, he added.
The present regulatory framework for MFs is, however, uniformly applicable to all schemes and does not differentiate regarding the applicability of provisions relating to entry barriers — net worth, track record, profitability — and other compliance requirements for entities who may be desirous of launching only passive funds.
SEBI intends to make a plain vanilla index as an entry point for new investors in mutual funds before they graduate to investing actively managed funds. It has also been nudging fund houses to reduce the minimum investment through SIP to ₹250 from ₹500 and ₹1,000.
However, mutual funds have been launching innovative passive funds to deliver smart beta – a superior return than the underlying index.
