Last week, the market watchdog released a notification for categorization in multi-cap funds.
Sebi observed that multi-cap schemes had flexibility in terms of allocation to Large, Mid and Small Cap stocks. However, it has recently been observed that some Multi-Cap Schemes have skewed portfolios, with over 80% of investment in large-cap stocks akin to Large Cap schemes, and some Multi-Cap schemes have near-zero or insignificant asset allocation to small-cap companies.
Thereby, Sebi said, "In order to achieve the objectives of True to Label and Appropriate Benchmark, a need was felt to review the scheme characteristics of Multi-Cap schemes and take necessary steps to clearly distinguish Multi-Cap schemes from other categories of schemes."
Following which Sebi has asked mutual funds to classify multi-cap funds by investing a minimum of 25% each in Large, Mid and Small Cap stocks, with the balance 25% giving flexibility to the fund manager. Also, they can switch to other schemes by unitholders, merge their Multi-Cap scheme with their Large Cap scheme or convert their Multi-Cap scheme to another scheme category, for instance, Large cum Mid Cap scheme.
Sebi gives time till January 31, 2021, to mutual funds for making the above changes.
CRISIL in its note on Wednesday said, "the Securities and Exchange Board of India’s (SEBI’s) latest move to usher in uniformity in the categorisation of multi-cap equity funds augurs well for investors as it will make it easier for them to choose between and within categories."
CRISIL’s analysis shows mutual funds have the following options available to comply with this rule:
Realigning the portfolio – Most multi-cap funds will have to sell off their large-cap investments to meet the new investment limits for mid- and small-cap stocks. This could result in ~ Rs41,000cr of net outflows from large caps and net inflows of ~ Rs13,000cr and ~ Rs28,000cr in mid-cap and small-cap segments respectively. Finding that order of investments in lower caps could be an uphill task for fund managers, especially given the illiquidity in the segment and the downbeat economic forecasts amid the Covid-19 pandemic.
Facilitate unitholders’ switch to other schemes – This has tax implications especially for investors with less than one-year holding period. Further, even for investors with a long-term investment horizon, capital gains of more than Rs 1 lakh per year is subject to long-term capital gains tax.
Merge multi-cap schemes with other categories – A fund house can merge its multi-cap scheme with its large-cap scheme or convert its multi-cap scheme category to say large-cum-mid-cap scheme. There are 35 multi-cap open-ended schemes in the mutual fund industry and within those AMCs, 27 have large-cap schemes, while 26 have large- and mid-cap schemes in their portfolio. Merging of schemes into other categories will, however, make their own multi-cap category offering vacant, requiring them to launch a new scheme as per the new provision – an option bereft of vintage and requiring time to build upscale in terms of assets and investor base.
Piyush Gupta, Director – Funds Research of CRISIL said, “In the short term, therefore, the regulator’s move to make schemes true to their label could set the industry aflutter and result in a merger, movement and new scheme launches.”
However, Nagarajan Narasimhan, Senior Director - Research at CRISIL said, “Rebalancing of the scheme portfolio would also need a review of existing benchmark indices to reflect the new market capitalisation requirement. This is because, currently, most broad-market indices are skewed towards large-cap stocks.”
For investors, CRISIL believes it is important to wait and watch what their fund house does with its scheme and then make changes to their portfolios based on overall risk-return profile, taxation impact and investment horizon.
Multi-cap funds are diversified form of investment in stocks of companies with different market capitalisation. As of August 2020, the fund has average assets under management of Rs1.46 lakh cr.