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The swing pricing system will be utilised primarily for scenarios involving net outflows from high-risk open-ended debt schemes. It will be a hybrid structure with a partial swing during normal periods and a full swing during market dislocations. Swing pricing must apply to all unitholders during both normal and market dislocation conditions for redemptions of more than Rs 2 lakh in each mutual fund scheme. The swing pricing system will go into effect on March 1, 2022. To prevent big redemptions from open-ended debt mutual funds, the markets regulator has now issued suggestions for a swing pricing system. It will prohibit significant investors from withdrawing from a fund during a market downturn, as well as a decline in the scheme’s net asset value (NAV). The swing pricing approach, on the other hand, has no effect on overnight funds, gilt funds, and gilt with a 10-year maturity fund.
Swing pricing mechanism
Swing pricing will be used for high-risk, open-ended debt schemes that contain high-risk assets in the event of market volatility. The swing factor will be in the range of 1 to 2 percent. The schemes must be classified using the Potential Risk Class (PRC) matrices A-III, B-II, B-III, C-I, C-II, and C-III. All schemes in the C–III category, which have the highest credit and duration risks, will be subject to a 2% swing factor. This means that when times are tough, investors who redeem their units will have to endure a 2% decrease in net asset value. A-III will likewise have a 1% swing factor while having the lowest credit and term worries.
The main considerations for defining swing pricing thresholds for regular times would be provided by the Association of Mutual Funds in India. It will also give a set of swing thresholds that may be utilized. Furthermore, asset management companies may develop their own requirements based on the structure and characteristics of the mutual fund scheme.
Investor safeguards
Swing pricing will apply to both arriving and leaving investors, according to a circular issued by the Securities and Exchange Board of India (Sebi), and they would get the NAV adjusted for swing factor. All fund houses will be obliged to provide specific disclosures with illustrations in the scheme information materials, including information on how the swing pricing mechanism will function when it will be activated, and the impact on the NAV for new and existing investors.
The swing pricing method decreases the risk of a fund run by requiring fund managers to offer the highest-quality and most liquid paper to satisfy redemption charges in the event of heavy withdrawals from debt funds. Existing investors are left with bad debt, and the secondary bond market isn’t very liquid. Most developed countries, including the United States and the United Kingdom, adopt swing pricing.
The Securities and Exchange Board of India (Sebi) recently proposed a dual benchmarking approach for mutual fund schemes. Beginning January 1, 2022, open-ended mutual funds in some categories will have two benchmarks: a standardised index and a customised index. Is a new way making it simpler for investors to invest? However, AMCs are still free to select the best benchmark for each scheme. Benchmarks are critical for assessing the performance of an actively managed fund. These numbers help investors determine if the fund’s performance compares well to a relevant market benchmark.
In the absence of a single benchmark or criterion, funds in the same category continue to evaluate their performance to a range of indexes. As a result, the comparison of performance is uneven. Experts, on the other hand, are afraid that introducing a second benchmark will undermine the advantages of having a single harmonized index and generate unnecessary uncertainty. According to Kuvera CEO Gaurav Rastogi, it complicates benchmarking, which is not beneficial to anybody. “If the AMC selects the second benchmark, certain AMCs may utilize it in an unknown manner.”
The vast majority of experts feel that investors do not need to venture outside the typical broad indexes. The fundamental benchmark—reflecting category mandate—should serve on its own to help in performance evaluation. According to Bala, investors should be sceptical of newly customized indexes. “All you can aspire for as an investor is for your fund to outperform the market over time.” Furthermore, funds will be allowed to utilise a second “bespoke” benchmark that matches their investment style or philosophy. This criterion will be optional and will be decided by the AMC. It appears that its utility will extend beyond the main index, allowing investors to discern the underlying scheme’s true approach and style.
“Broader market indexes are enough for this comparison,” she argues. If at all, the second benchmark should be used for a more in-depth study of style variance. A benchmark is not necessary for debt funds. Bala feels that because of the homogeneity of debt funds within the same category, they are more suited for peer-to-peer comparison. Two-tiered benchmarks, on the other hand, will not be included in all funds. A single benchmark would be used for thematic and sectoral funds, as well as index funds and ETFs. Wherever feasible, hybrid and solution-oriented schemes must use a single benchmark that is based on a wide market benchmark.
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