SEBI's standardisation move to enhance transparency in markets

Securities Exchange Board of India (SEBI) has been actively coming up with many regulationsacross various spheres of the market. Since the last few years, there's been a greater standardisation in the mutual fund (MF) space, the biggest active management asset in thecountry. This has enormously brought level-playing field among the players while enabling astructure to understand and interpret the reports by the investors.

Similar attempt is being done in the other active asset management space ie, Portfolio Management Services, popularly known as PMS. As the name suggests, PMS is an investment vehicle to manage investment portfolios of investors. This is distinct from the MF, though many of the fund houses also run this business. Unlike in a MF where theinvestor's contribution is added to a pool which invests in the markets by allocating units tothe investors, in a PMS the fund manager directly manages the investor allocation by addingthe securities in the account of the investor.

For instance, in an equity MF the investor would be allocated units which would be investedacross various stocks but in a PMS, the investor is not allocated any units but directly the stocks which the fund manager buys on the behalf of the investor. This service hence is seen as personalised to the investor's needs. However, the selection of the securities and the percentage of allocation is completely at the discretion of the fund manager. The PMSwould define the theme or investment philosophy of the fund being invested into andbroadly the fund manager takes investment calls accordingly.

A fee is charged which could be a mix of upfront and recurring. This could be a flat fee, or aperformance linked one, the latter being common. In a fixed fee structure, an annual fundmanagement fee is collected on a quarterly basis. In a performance linked fee, a fixed fee ofthe asset plus a profit share on the portfolio, which is of higher watermarking. Higherwatermark ensures that the profit share is applicable only when there is a higher profit thanthe previous high.

What SEBI is now bringing on to the table is standardisation in the way these products are marketed, and their performances are broadcasted. The new guidelines which come into effect from the next financial year are in the matters of benchmark comparison and performance statements. Though, seem to be trivial, are meaningful changes that are of great help to the investors who're confused to compare these services. This comes after the changes in the fee structure and minimum investment amounts made couple of years back.

This increases transparency in depicting the actual performance of the funds to the investors rather than the model portfolio performance. Although, it's very difficult to juxtapose to a benchmark, this is a significant welcome step bythe regulator in demystifying the way the returns are interpreted. SEBI has directed the PMSes to adopt broadly defined investment strategies on the lines of equity, debt, hybrid and/or mulit-asset. The Association of Portfolio Managers of India (APMI) will specify up tothree benchmarks for each strategy, considering the core philosophy of the fund. Thisdoesn't make it a straightforward comparison like that of the MF but still a better than thecurrent system.

While portraying the returns, each PMS must publish a Time-Weighted Rate of Return(TWRR) of their performance. This is a compounded rate of return of the portfolio whichsegregates the portfolio into separate silos or intervals based on the investments andredemptions made. This thus effectively eliminates the distorting effects of the growth ratescreated by cash inflows and outflows. By employing this method, it breaks up the returns foreach period whenever there's a change in the portfolio, indicating in a much precisemanner. These changes must be inculcated in the various marketing material andstatements sent to the investors.

Though these investments aren't for the public, it's important that a regulated investmentvehicle is subjected to uniformity and standardization which PMS lacks currently. This couldalso effectively improve the perception of these products as the country's prosperouscitizens grow, increasing the overall market for these services.

(The author is a co-founder of Wealocty, a wealth management firm and could be reached at knk@wealocity.com)