Monday, September 30, 2013


September 2013

Regulatory Rigmarole

The Securities and Exchange Board of India (SEBI) classified foreign investors coming to India through the newly introduced portfolio investment scheme (PIS) route into three categories, category I, II, and III investors, while issuing know-your-client or KYC norms for such investors. In a bid to attract foreign inflows, the capital markets regulator in June 2013 had rationalized foreign investment routes, simplified their registration and investment procedures while bringing all categories of foreign investors under a single channel called PIS. Foreign direct investment (FDI) was kept as a separate category. The KYC procedures will vary according to the category. Overseas government-related bodies such as foreign central banks, sovereign wealth funds, international or multilateral agencies will be classified under category I. Category II will include regulated broad-based funds such as mutual funds, investment trusts, insurance and reinsurance firms, banks, asset management companies, investment advisors, university funds, pension funds and so on. Endowments, charitable trusts, foundations, corporate bodies, individuals, family offices and all other types of foreign investors who are not in the first and the second category will be classified under category III. The KYC format put out with the SEBI release revealed that the registration procedure will be the simplest for category I investors. According to the new rules, all foreign institutional investors, sub-accounts, and qualified foreign investors fall under a single set of rules framed for PIS. The KYC norms will be applicable for both the new and existing clients.

The AMFI ARN committee has advised that overseas distributors will have to complete some basic level of registration with AMFI. However, they will not be required to obtain NISM certification. Overseas distributors are those who do not sell mutual fund schemes to any investors in India. Overseas distributors are required to comply with the extant laws, rules, and regulations of jurisdictions where they carry out their operations. These distributors will be required to pay a one-time fee of US $ 1000 (corporate) and US $ 100 (Individuals) for registering with AMFI. To register with AMFI, these distributors are required to submit identity proof and address proof. They are also required to submit proof of registration/ regulation in the jurisdiction(s) where they propose to carry out activity of distribution of Indian mutual fund schemes. The due diligence of these distributors has to be done by AMCs. After obtaining ARN, they are required to approach the AMCs for empanelment. After empanelling with the AMC, they can sell units of mutual fund schemes of the AMC to investors outside India. The ARN allotted to Overseas Distributors does not have a time limit.

SEBI has received applications for forming mutual fund distributors’ Self Regulatory Organization (SRO) from AMFI, Financial Planning Standards Board India (FPSB), and Financial Intermediaries Association of India (FIAI). The deadline for submitting applications for SRO was July 31, 2013. Interestingly, the three entities are very different – while AMFI is the trade body of mutual fund manufacturers (albeit with the responsibility of distributor registrations), FIAI is an association of 15 large distributors, and FPSB provides CFP certification. The SRO must be a company registered under section 25 of the Companies Act, 1956, and must have a minimum net worth of Rs 1 crore. SEBI will initially grant an in-principle approval for setting up an SRO. According to SEBI, the applicant will be given a reasonable time period for complying with all requirements for getting the recognition of SRO.

AMFI has communicated to fund houses that the employee unique identity number (EUIN) remediation period will be reduced from the current 90 days to 30 days from October 1, 2013 onwards and to seven days from January 1, 2014. The new rule was communicated to the CEO of AMCs on August 27, 2013. Currently, if distributors fail to mention EUIN in transactions, they are supposed to furnish EUIN to CAMS within 90 days; otherwise AMCs forfeit the commissions on such transactions. Earlier, EUIN was not required in execution only transactions. AMFI later clarified that EUIN has to be mentioned mandatorily irrespective of the nature of transaction – whether advisory or execution only. Quoting employee unique identification number (EUIN) became mandatory from June 1, 2013. EUIN is mandatory for transactions like new purchase, additional purchase, fresh SIP, switch, fresh STP, fresh (Dividend Transfer Plan) DTP. For transactions like ongoing SIP, ongoing STP, ongoing DTP, dividend reinvestment, bonus units, redemption, SWP, mentioning EUIN is not required. Through this platform distributors can slice and dice data, benchmark with peers, cut across asset classes, demographics and product category.

New cadre of distributors cannot sell FMPs since they do not meet SEBI’s criteria of three-year track record and out performance against benchmark. FMPs, which are close-ended products come with a fixed tenure, cannot have a track record. All AMCs have to follow AMFI’s best practices guidelines in identifying schemes eligible for new cadre of distributors. According to AMFI guidelines, a diversified equity scheme category should be large cap, which should not include sector funds, small and mid-cap funds and should not have concentration in less than 30 stocks. The list of eligible schemes is compiled annually based on the performance of the scheme during each of the last three financial years (April to March). The list is reviewed and modified every year in April. If these distributors submit any applications of schemes, which are ineligible then AMCs reject such transactions. AMCs have published the list of schemes, which are eligible to be sold by the new cadre of distributors. SEBI has allowed business correspondents, insurance agents, FD agents, retired government, and semi-government officials (class III and above or equivalent), retired teachers, and retired bank officers with a service of at least 10 years to enroll as new cadre of distributors. AMFI has waived off ARN registration fee for the new cadre of distributors till September 30, 2013.

AMFI is likely to standardize the process of product labeling for AMCs. Product labeling, which came into effect from July 1, 2013, was introduced by SEBI to curb mis-selling. The recent volatility and negative returns seen in debt funds has put the relevance of product labeling under question. For instance, liquid funds are denoted by blue color, which according to SEBI’s definition carry low risk of losing principal. AMCs are supposed to put color codes in all their advertisement materials, front page of initial offering application forms, key information memorandum (KIM), scheme information documents (SIDs) and common application forms. There are discrepancies in the way products are labeled across AMCs. AMCs might differ in categorizing some products based on their risk. So, the color code may differ. Currently, the product labels are divided into three categories – blue, yellow, and brown. Blue determines that principal is at low risk while yellow signals that the principal is at medium risk. Brown indicates that the principal might be at high risk.

The capital market regulator SEBI has said that it needs to work towards spreading financial education, upgrading technology and be strict and prompt in enforcement to create an atmosphere of trust in the market, confidence in the investor and efficiency in the system. Expressing concern over the marked decline of financial savings and increasing channelisation of domestic savings into physical assets, such as gold and real estate of late, SEBI said that it would take care of the interests of retail investors in the market and appropriate measures as and when required would be taken in the future. In its annual report for FY13, SEBI said it had constantly worked to fulfil its goal through supervision and proactive regulations and had an infrastructure for disclosure, surveillance and trading that was robust and in sync with global standards. A high-level committee is looking into the current insider trading regulations and reviewing them so as to align the regulations with global best practices. The surveillance system has been effectively monitoring the market and aberrations are investigated to ensure a free and fair market. To widen and deepen the market, it would consistently pursue market developments and take proactive policy measures. While some segments of the market may require constantly evolving vigil due to their pervading effect, all grey areas would require immediate intervention. As the regulatory framework for grey areas such as unauthorised capital mobilisation is still under construction, it is imperative for the investors to be well informed of the financial decisions they take. The only antidote to this is increasing the access to banking and regulated financial services and awareness of investors and continuous fine-tuning of regulations to address any regulatory lacunae. Investor education though various measures would continue to remain a priority area.

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