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Sebi revamps structure of multi-cap funds

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In a circular released on Friday, the Securities and Exchange Board of India (Sebi) introduced a detailed portfolio structure for multi-cap funds. Such schemes must invest at least 25% of their portfolios in large-, mid- and small-caps each. Large-cap stocks are defined as the largest 100 stocks by market capitalization, mid-caps as the next largest 150 stocks and small-caps are all the stocks below the top 250 in size.

Existing schemes will have to comply with the circular by January 2021, within one month of the Association of Mutual Funds in India (Amfi) publishing the new list of large-, mid- and small-cap stocks in December 2020.

Currently, Sebi rules do not prescribe percentage allocations for large-, mid- and small-cap stocks for multi-cap funds. Such funds are given a high level of flexibility to move between these market caps. Some schemes of this nature such as PPFAS Long Term Equity also allocate a portion of their portfolio to international stocks (up to 35%). The circular is silent about which categories such stocks will fall in.

“The new circular makes multi-cap funds more true to label. These funds are currently overwhelmingly large-cap, making the distinction between the two categories a marginal one,” said Swarup Mohanty, CEO, Mirae Asset Mutual Fund. On average, multi-cap funds currently allocate 70% of their portfolios to large-cap stocks, 22% to mid-cap stocks and just 8% to small-cap stocks.

“In the short term, however, the lack of liquidity in mid- and small-caps can create impact cost for such funds,” said a senior fund manager, who declined to be named. Impact cost is the unfavourable movement of prices due to large buy or sell orders when liquidity is poor.

Multi-cap funds currently have assets under management of 1.46 trillion. Hence, a realignment of such funds can shift around 66,000 crore into mid- and small-caps over the next few months.

A fund manager of a mutli-cap fund, who spoke on the condition of anonymity, said that he may look at moving the scheme to another category such as focused or thematic to avoid the rigidity of the new rules. Such shifts in fund structures may soften the shock of heavy flows into mid- and small-caps.

“The USP of multi-cap funds is the flexibility to move between large-, mid- and small-caps. Rigidity of allocation puts a stop to this USP. Also, I’m not sure if the small-cap space has enough liquidity to support 25% of multi-cap portfolios. Then, the lack of flexibility is going to make it harder for active funds to deliver alpha,” said Prateek Pant, co-founder, Sanctum Wealth Management.

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