Sebi proposes to relax rules for ETF and index fund investments in group companies

The Securities and Exchange Board of India (Sebi) is planning to ease restrictions on index funds and exchange-traded funds (ETFs) regarding their investments in group companies or sponsors.

In a consultation paper released on February 23, Sebi proposed the removal of the 25% limit on investments in group companies of sponsors for equity-oriented ETFs and index funds based on widely tracked and non-bespoke indices.

The proposal aims to enable index funds and ETFs to replicate their benchmark indices more accurately, aligning their investments with the weightage of the constituents of the underlying index.

The Working Group (WG) under Sebi has emphasised that while both active and passive mutual fund schemes are currently restricted to investing up to 25% of Net Asset Value (NAV) in group companies of their sponsors, sectoral/thematic passive equity schemes are allowed exposure of up to 35% weight in the index for a single stock/issuer.

The WG has underscored the need to align investment regulations with the unique characteristics of certain sectoral indices, where exposure to a single issuer may exceed the existing 25% limit.

Recognising that passive funds are mandated to replicate their respective underlying indices, the WG recommends a relaxation of the sponsor group exposure limit for equity-oriented ETFs and index funds based on widely tracked and non-bespoke indices.

Sebi recognised that relaxing this restriction for widely tracked indices can help in avoiding unintended tracking errors.

In addition to this, Sebi has suggested relaxing the requirement of having a separate and dedicated fund manager for schemes overseeing gold, silver, and other commodities, as well as foreign investments.

The regulator emphasised the potential cost savings for fund houses by leveraging existing research capabilities and analysts to track these asset classes, thus making a dedicated fund manager unnecessary.

Furthermore, the markets regulator has proposed making nominations optional for jointly-held mutual fund folios.

The consultation paper suggested that since the second holder takes legal precedence over a nominee as a legal heir, making nominations mandatory for jointly-held folios may not be necessary.

Public comments and suggestions on these proposals are invited until March 15, 2024.