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India’s stock market regulator, Securities and Exchange Board of India (SEBI) has been trying to streamline operations of Portfolio Management Services (PMS) of late and its latest circular is yet another step aimed at this end. The guidelines address the selection of benchmarks to standardize fund performance reporting and valuation of assets held. There is no dispute that the market regulator should ensure that the interests of all investors, be it high net worth individuals investing in PMS schemes or small retail investors putting their money in mutual funds, are protected.
However, it may not always be correct to use the same parameter to formulate rules for both. The minimum ticket amount to invest in PMS is ₹50 lakh and HNIs use this vehicle to get customized investment solutions that bring them high returns while taking high risks. While ethical reporting practices are acceptable, their investment decisions should not be hampered by excessive regulations. Portfolio managers adopt more innovative strategies compared to mutual funds to achieve returns above the hurdle rate (returns above the hurdle rate are shared with the portfolio manager). These funds invest in smarter, more return oriented and also riskier assets.
Requiring these funds to be divided into mutual fund-like buckets such as equity, debt, hybrid and multi-asset and comparing their performance to standard indexes undercuts the value of premium services provided by portfolio managers. Additionally, some of these funds’ metrics may not be relevant, and some strategies may not have appropriate metrics. Similarly, standardizing the way performance is disclosed can help investors better understand returns, but the regulator cannot impose strict rules on PMS return disclosures. Subscribers of PMS schemes are more sophisticated than mutual fund investors. ; Portfolio managers should be allowed the freedom to define the performance of their funds using other metrics.
A few changes made by SEBI, however, are welcome. The provision that a change in fund strategy can only be made after notifying subscribers and giving them the option to exit without an exit load will stop fund managers from frequently changing investment patterns. SEBI has laid down that proper justifications need to be provided for changes in strategy or benchmarks and this justification should be part of the annual audit mandate. SEBI’s move to standardize the value of securities held in PMS funds is a good step. As mutual fund asset valuation rules are now watertight, asking PMS funds to use the same valuation rules as mutual funds is the right approach. If portfolio managers use APMI-endorsed valuation agencies for debt, money market securities, unlisted equities and other unconventional products held by them, they ensure that the portfolio is properly valued, reflecting the actual losses incurred.
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