iii. Mutual Funds

Amendments to the Securities and Exchange Board of India (Mutual Funds) Regulations, 1996

The mutual funds have become an important vehicle for mobilisation of savings particularly from the household sector. The SEBI has been taking steps towards improving the standards of disclosure for mutual funds, introducing prudential norms to prevent misuse of funds by the asset management companies and to afford a greater degree of protection to the investors. Simultaneously with the introduction of stringent regulations to raise the compliance standards, the SEBI has been seeking to give greater degree of freedom to fund managers to structure their schemes according to investor preferences. With this end in view the SEBI has further amended the Mutual Fund Regulations which were notified in 1996. The salient features of the amendments are given in the box 1.7:

Box I.7: Amendments to the Mutual Fund Regulations

Aggregate investment by a mutual fund in listed and /or to be listed securities of group companies of the sponsor shall not exceed 25 per cent of the net assets of all schemes of the fund. Asset Management Companies (AMCs) will not be required to disclose in the scheme offer document, the maximum investments proposed to be made by the scheme in the securities of the group companies of the sponsor and also, the aggregate investment already made by all existing schemes in group companies. The AMCs must submit quarterly reports to the trustees on transactions in the securities of group companies during the quarter, and trustees will have to specifically comment on such transactions recorded in the half yearly reports which they would submit to SEBI. Mutual funds have been prohibited from making investments in unlisted/privately placed securities of associate/group companies of the sponsor.
Security transactions with associate brokers shall not exceed 5 per cent of the quarterly business done by the mutual fund. In case of transactions undertaken with any non-associate broker, if this 5 per cent limit is exceeded, AMCs will be required to record in writing the justification for exceeding the limit and report this to the trustees on a quarterly basis.
Unitholders' approval will no longer be required for rollover of schemes and for converting close-ended into open-ended schemes, provided the unitholders are given an option to redeem their holdings in full at NAV based prices.
Independent trustees who are not associated with the sponsor shall now constitute two third of the Board of Trustees instead of the earlier provision of 50 per cent.
Memorandum containing key information must accompany all application forms of mutual fund schemes to ensure adequate disclosures to investors.
Full portfolio disclosure in the Annual Report of Mutual Funds is now mandatory.
The auditors will now be required to comment on the compliance of the regulations and investors grievances and redressal thereof by the mutual funds.

Standard offer document and memorandum containing key information

The SEBI prepared a standard offer document which prescribes the minimum disclosure requirements to be contained in the offer document of any mutual fund scheme. In addition, an abridged offer document i.e. the memorandum containing key information, which must accompany all scheme application forms in terms of sub regulation (4) of regulation 29 of the Regulations, has also been standardised. Both these documents have strengthened the disclosure standards in the offer documents of mutual fund schemes, thereby enabling the investors to take informed investment decisions.

Both these documents were prepared on the basis of broad based views and comments from the Association of Mutual Funds of India and Price Waterhouse LLP, from various Investors' Associations and retail investors contacted through press. The standard offer document and memorandum mandate the following disclosures ;

submission of the Due Diligence Certificate by the AMC to the SEBI and reproduction of its contents in the offer document.
standard as well as scheme specific risk factors.
in the case of assured return schemes, past history of the mutual fund in meeting assurances under such schemes as well as the resources available to the guarantors on the basis of which guarantee is being provided for the new scheme.
fundamental attributes of the scheme.
details of the trustees/members of the Board of Directors of the trustee company/AMC as well as a note on the activities of the sponsor and its financial performance for the last three fiscal years.
transactions with associates undertaken by the mutual fund for the last three years.
year-wise disclosure of past performance of all schemes launched during the last three fiscal years on the basis of historical per unit statistics including annualised return for all schemes (excluding redeemed schemes).
all cases of penalties awarded by any financial regulatory body, any pending material litigation proceedings, criminal cases or economic offence cases and any enquiry/adjudication proceedings under the SEBI Act and the regulations made thereunder, that are in progress against the sponsor or any of its associates including the AMC/Trustee company/Board of Trustees or any of the directors or key personnel (specifically the fund managers) of the AMC.

P.K. Kaul Committee

A Committee was set up under the Chairmanship of Mr. P.K. Kaul to recommend the manner of discharge of responsibilities by the trustees as laid down in regulation 18 of the SEBI (Mutual Funds) Regulations, 1996. Apart from making recommendations, the committee would also be devising a model MIS system particularly at the AMC and the trustee level, recommending clarifications regarding the manner of compliance with some of the provisions of the Regulations and additionally, study the feasibility of organising mutual funds alternatively as companies and the applicability of the Indian Trusts Act vis-a-vis Trustees.

Working group on overseas investments by mutual funds

The Reserve Bank of India (RBI) in its credit policy announced in October 1997, that all the SEBI registered mutual funds and fund managers would be permitted to invest in overseas markets, initially within an overall limit of USD 500 million and a ceiling for individual fund at USD 50 million and within such limits as announced by the RBI from time to time. In this context, the SEBI set up a working group to frame the modalities and guidelines for investment by domestic mutual funds in the overseas markets. Various issues such as appointment of overseas advisers and global custodians, fee structure and restrictions on overseas investments are being considered by the working group.

Action taken against asset management companies of mutual funds

There was a delay of 30 days in listing the units of one mutual fund scheme on the stock exchange for violation of the provisions of the SEBI Act and the Securities and Exchange Board of India (Mutual Funds) Regulations, 1996. The case was referred for adjudication. Another case, where the inspection report observed certain irregularities is being referred for adjudication/enquiry.
On account of deteriorating financial position, violation of RBI directions and various irregularities committed by the sponsors of GFC Mutual Fund and Asia Pacific Mutual Fund, the Chairman, SEBI, passed orders prohibiting them from launching any schemes. Both the Funds were prohibited from undertaking any activity under the Regulations.
On account of financial irregularities and illegalities committed by the CRB Capital Markets Limited which is also the sponsor of CRB Mutual Fund, (action has been initiated by the RBI against this NBFC), the SEBI took up the matter with the trustees of the Fund. However, the trustees did not respond to the notice issued by the SEBI. Therefore, under Section I (B) of the SEBI Act, 1992, the Chairman passed an order prohibiting the Fund from launching any further scheme and from dealing with the securities and funds of the scheme till further orders. Hon'ble Bombay High Court appointed a provisional administrator for CRB Mutual Fund. The SEBI is working out a scheme to protect the interests of the unitholders.

Difficulties faced by assured return schemes

In 1992, LIC Mutual Fund had launched two schemes - Dhanvarsha 4 and 5. On account of adverse market conditions, there had been a steep decline in the NAVs of both the schemes. Consequently, there was a deficit of Rs. 190 crore. in meeting the redemption benefits as assured in the offer documents. The sponsor - LIC, voluntarily decided to meet the shortfall. This was to be effected by means of a scheme of arrangement, whereby the Mutual Fund would allot to LIC, on the due dates of redemption of these two schemes, special units against payment of funds by the LIC, which would be equal to the redemption obligations under these schemes. In the process, all assets of the schemes would stand transferred to LIC. The units would be managed by the AMC and can be redeemed by the LIC as and when it desires. As the arrangement offered by the LIC was in the interest of unitholders, the SEBI allowed the scheme.
Another scheme, Ind Jyothi of Indian Bank Mutual Fund, launched prior to the notification of the 1993 Regulations, was unable to pay assured returns for the year 1996-97 and 1997-98 to the investors due to inadequacy of distributable profits. The SEBI advised the Fund to meet the assurances and finally, the sponsor of the Fund - Indian Bank agreed to pay the assured returns. In case of their Ind Prakash scheme also, the SEBI had advised them to pay returns to the unitholders as mentioned in the offer document. Similarly upon the SEBI's advice, PNB Mutual Fund paid assured returns on guaranteed schemes, and the sponsor, Punjab National Bank was required to meet the shortfall.