Investors hurt by mutual fund changes to fit new SEBI rules

India's mutual funds are being restructured dramatically to align them with new SEBI norms. Investors are being given a hard choice - accept the new order or pay tax and leave.

The fund industry has played up the tremendous wealth-creating power of mutual funds through the #MutualFundSahiHai campaign and rightly so. However when the time comes to push through some investor unfriendly changes, 'quickly and quietly' seems to be the order of the day.

In October 2017, the Securities and Exchange Board of India (SEBI) released a new fund classification system. It framed detailed rules for each fund sub-category. It specified for instance, which funds could be called 'large-cap' or which funds could be called 'corporate bond.' It got rid of some historical absurdities like 'Monthly Income Plans' which do not, in fact, provide guaranteed monthly income . Fund houses were asked by the regulator to alter their existing mandates to comply with the new system. The regulator also mandated that fund houses could only maintain one scheme per sub-category. In other words, the existing mess of similar sounding schemes investing in the same stocks or bonds, was to be cleaned up.

All well and good. However as with many things in India, ideas sound good on paper can lead to disaster when implemented. There are about 44 fund houses in India, also called AMCs or Asset Management Companies and roughly 2500 mutual fund schemes. These fund houses were given the task of fitting their (roughly 55 odd schemes per house) into the pigeon holes set up by the regulator. This has resulted in tweaks and twists in the governing documents of virtual every mutual fund scheme in the country. The real implications of this cannot really be determined until years pass from today.

However in some cases, the impact is very current and very negative. These are cases where an AMC has simply not found a SEBI category for an existing scheme and hence transformed the said scheme into a completely different one. This is a bit like buying a ticket to Goa, only to be told by the tour operator that your ticket has been changed to Shimla. Vacation is a vacation, na?

Take the case of SBI Magnum Gilt Fund - Short Term Plan, now morphing into SBI Magnum Constant Maturity Fund. The existing fund is designed to invest in government bonds of relatively short maturity, keeping interest risk low. The new fund is mandated to keep an average portfolio maturity of 10 years (high interest rate risk), in exchange for potentially higher (but uncertain) returns. As interest rates climb in India and debt funds bleed money, is this what the investors in the fund had signed up for?

Some will argue that these investors are given a one month window to exit from the fund without paying an exit charges. However, let us be realistic. How many investors are going to be warned in time and act in time? Even if they do act in time, they will still be forced to pay tax when they leave. This is because SEBI rules grant no exemption from income tax when you redeem your fund investment as a result of a scheme reclassification. The regulator would argue, quite correctly, that this is within the purview of the Finance Ministry. However that is no comfort to the scheme's beleaguered investors.

If you have any mutual fund investments, don't just delete the fund emails that will be falling into your inbox with boring subject lines like 'change in fundamental attributes.' These can affect your finances dramatically. Speak to your agent, distributor or advisor or read the documents yourself. If you invest directly in mutual funds, you already have some basic investing knowledge. Use it to understand what these 'changes to fundamental attributes are.' Are rupeeiq.com we are combing through the fine-print to cull out, what we think are the most radical instances of scheme changes. However there will be instances of major shifts that we will miss and these might well be about your investments.

Wake up ladies and gentlemen, the clock is ticking. The exit window periods for fundamental attribute changes in some of India's largest fund houses such as SBI, HDFC and ICICI are closing in the latter half of May, 2018. Reliance Mutual Fund is closing its window even earlier, by the end of April. Wake up now!