Here’s How SEBI Wants NFO Proceeds to Be Deployed

November 5, 2024 Mutual Fund

Indian mutual fund houses amidst the upbeat market sentiments (backed by the fact that India is the fastest growing economy with robust fundamentals) and that retail investors are enthusiastically investing in mutual funds have launched a variety of schemes, both active and passively managed ones, over the last few years.

Table: Fund Houses Opened NFO Factories

*Data as of September 30, 2024
(Source: AMFI, data collated by PersonalFN Research) 

Even during the COVID-19 pandemic, several New Fund Offers (NFOs) were launched, recognising the cult building for high-risk investment avenues in the endeavour to earn better returns. This has helped fund house build their product basket.

Graph: In FY24 September 2024 Saw the Highest Number of NFOs

Data as of September 30, 2024
(Source: AMFI, data collated by PersonalFN Research) 

The Assets Under Management (AUM) increased not just by the market gains but also inflows into a variety of mutual fund schemes, including the NFOs with investors enticed by the Rs 10/- investment proposition.

However, now the capital market wants the proceeds of the NFOs to be deployed systematically in line with the mandate of the scheme.

Thus, it has come up with a consultation for the deployment of funds collected by mutual funds in NFOs as per asset allocation.

During the examination of the periodic submissions made by Asset Management Companies (AMCs), SEBI observed that, in a certain instance, there was a considerable delay in the deployment of the funds collected through NFO.

According to the regulator, 603 out of the 647 NFOs of the schemes, AMCs took less than 30 days from the date of allotment of units to achieve the asset allocation as specified in the SID of the scheme while for 633 NFOs, the AMCs took less than 60 days from the date of allotment of units to achieve the asset allocation as specified in the SID of the scheme. Thus, 98% of the NFOs of the scheme launched in the last three financial years were able to achieve the asset allocation as specified in the SID in 60 days or less.

The delay was attributed to the size of the funds collected, expensive valuations in certain sectors or market capitalisations, uncertainty following the geopolitical development, volatility in the market, unavailability of security with specific maturity, etc.

Currently, fund houses or AMCs are allowed to deploy the NFO proceeds in triparty repo on Government securities or treasury bills before the closure of the NFO period.

However, the regulatory guidelines disallow charging any investment management and advisory fees on funds deployed in the triparty repo on Government securities or treasury bills during the NFO period. The appreciation received from investment in the triparty repo on Government securities or treasury bills is required to be passed on to investors.

And in case the minimum subscription amount is not garnered by the scheme during the NFO period, the interest earned upon the investment of NFO proceeds in the triparty repo on Government securities or treasury bills is to be returned to investors in proportion of their investments, along with the refund of the subscription amount.

However, the current regulatory provisions do not prescribe the parameters for deployment, such as the minimum number of days, temporary deployment in the triparty repo on Government securities or treasury bills, etc. In other words, there is no regulatory timeline for the deployment of funds as per the asset allocation after the NFO period.

The capital market does recognise that considering the size of the corpus required to be deployed could be significantly large, suitable flexibility is required for the fund managers to deploy the funds according to his/her/their views on the market. But the AMC should not retain the proceeds received through NFO, for an indefinite period without deployment in the stated assets.

Therefore, the regulator in a recently released consultation paper, has now proposed a timeline within which the deployment of funds may be required to be made as per the prescribed asset allocation of the scheme.

The matter of timely deployment of funds received in NFO was also discussed by the regulator with the Association of Mutual Funds in India (AMFI), wherein it was suggested that the timeline for deployment of funds should be within 90 days.

The matter was also discussed by the Mutual Fund Advisory Committee (MFAC) which made the following recommendations:

• The AMC should specify in the Scheme Information Document (SID) the achievable timeline for deployment of funds as per the specified asset allocation of the scheme and should garner funds during the NFO period accordingly.
• AMCs may be mandated to deploy the funds garnered in NFO within 60 business days from the date of allotment.Now, in case, the AMC is not able to deploy the funds in 60 business days, reasons in writing, including details of efforts taken to deploy the funds, should be placed before the Investment Committee. The Investment Committee may extend the timeline by 30 business days.

Further, in case the funds are not deployed as per the asset allocation mentioned in the SID in aforesaid mandated plus extended timelines, it is proposed that…

• The AMC may not be permitted to launch any new scheme till the time the funds are deployed as per the asset allocation mentioned in the SID.
• The AMC may not be permitted to levy exit load, if any, on the investors exiting such scheme(s) after 90 business days of not complying with the asset allocation of the scheme.
• Also, the AMC will be required to report the deviation to the Trustees at each of the above stages.

The consultation paper mentions that it is important that the Investment Committee (IC) of the fund house examines the root cause before approving part or full extension and that the Investment Committee should not ordinarily give part or full extension where the assets for such schemes are liquid and readily available.

The MFAC recommended that the above proposals be made applicable to all NFOs other than for Index Funds and Exchange Traded Funds.

What Are SEBI’s Proposals?

Based on the feedback received from the industry and data analysis as provided, the SEBI made proposals in its consultation paper almost on similar lines:

• The AMC should specify achievable timelines in the SID regarding the deployment of the funds as per the specified asset allocation of the scheme and should garner funds during the NFO accordingly.
• AMCs may be mandated to deploy the funds garnered in NFO within 30 business days from the date of allotment of units.In exceptional cases, if the AMC is not able to deploy the funds in 30 business days, reasons in writing, including details of efforts taken to deploy the funds, should be placed before the IC.The IC may extend the timeline by 30 business days and monitor the same. Also, the IC should examine the root cause before approving part or full extension and should not ordinarily give part or full extension where the assets for such schemes are liquid and readily available.
• In case the funds are not deployed as per the asset allocation mentioned in the SID in aforesaid mandated plus extended timelines, AMC may:
  • Not be permitted to launch any new scheme till the time the funds are deployed as per the asset allocation mentioned in the SID.
  • Not be permitted to levy exit load, if any, on the investors exiting such scheme(s) after 60 business days of not complying with the asset allocation of the scheme.
  • Report the deviation to Trustees at each of the above stages.

As recommended by the MFAC, the above provisions are made applicable to all NFOs other than for Index Funds and Exchange Traded Funds.

SEBI is also of the view that markets become overvalued or there is inadequate availability of desired assets, it is appropriate that instead of delaying the deployment of funds after NFO, the AMCs should slow down the collection of funds in the first place.

Currently, SEBI has invited Public comments on the proposal made in its consultation paper, which can be submitted by November 20, 2024, through the link here-
https://www.sebi.gov.in/sebiweb/publiccommentv2/PublicCommentAction.do?doPublicComments=yes

In my view, the capital market regulator is constantly looking at aspects closely and carefully that can be in the interest of investors at large. This consultation paper ensures the timely deployment of the total asset of the scheme within a stipulated period in line with the asset allocation stated in the SID.

As an investor, you should thoroughly read the SID when considering NFOs (or even existing schemes for that matter) and add mutual fund schemes that are in congruence with your risk profile, broader investment objective, the financial goal/s you are addressing, the time in hand to achieve those envisioned goals and ensure that a best-suited asset allocation is followed.

Be thoughtful in your approach.

Happy Investing!

This article first appeared on PersonalFN here