Not appropriate to allow bubble to keep building because bubbles will burst: SEBI chairperson

Sebi's Madhabi Buch was talking about the additional disclosures that will be in place from March 15.

The market regulator is trying to stop a bubble from building in the small- and mid-cap space by flagging the surging interest in the segment as an area of concern, urging trustees of mutual funds to formulate policies suitable to protect investors from any kind of risk, Madhabi Puri Buch, Chairperson of the Securities and Exchange Board of India (SEBI) said. She said this in the context of the recent advisory to the mutual fund industry asking trustees of mutual funds to take suitable steps to including moderating inflows into funds.

The Chairperson was speaking on the sidelines of an event organised by the Association of Mutual Funds of India to felicitate women fund managers celebrating International Women’s Day.

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"Some people may call it froth. Some people may call it a bubble. It may not be appropriate to allow that bubble to keep building because, if it keeps building, then when it bursts... and bubbles burst, by definition, then they will impact investors adversely," said the SEBI chairperson at an event organised by the Association of Mutual Funds in India (AMFI) on March 11.

Buch said that the capital market regulator will not mandate mutual funds to stop new flows into fund schemes or take any such steps without floating a consultation paper, but it is nudging trustees of mutual funds to take steps to protect investor interest as there is a general feeling that there is forth in certain segments of the market.

“When they (the bubbles) burst, they impact the investors adversely. That's not a good thing. So what should the industry and each of the mutual funds do proactively to not keep fueling the bubble? Now, the question is that this is not something that should be mandated. What we have said is, this is an area of concern. Each mutual fund has trustees who are looking out for the interests of the investors, they should sit down and formulate a policy," she said.

Buch said the regulator was okay with each fund deciding to have its own policy or for the industry to get together and make a common policy. “We have suggested that the trustees should have a policy in place, because it sounds like a prudent thing to do to protect the investors.”

The regulator wants the trustees to ensure proactive measures are taken by AMCs and fund managers towards moderating inflows and portfolio rebalancing, and steps are taken to ensure investors are protected from the first-mover advantage of redeeming investors.

On part of Sebi, Buch said that the regulator will not mandate any measures without floating consultation paper and following due process. However, it has directed mutual funds to make additional disclosure in a newly prescribed format to capture the risk faced by small- and mid-cap fund schemes especially with respect to the liquidity risk they face.

From March 15, small- and mid-cap funds will have to disclose stress-test in the prescribed format on the AMFI website. This disclosure will help investors understand how many days the funds would take to exit their underlying portfolio in an adverse environment, that is, if they were to face “significant redemptions”.

Also read: Stress test disclosures for small and midcaps funds to be announced on March 15: Madhabi Buch

Sebi nudge to the industry as well as the new disclosure directive comes in the backdrop of frenzy in the small-cap and mid cap segment which has resulted in rising flows in small-cap funds. This has resulted in stock valuations rising sharply, making them risky to invest in. “Some pockets have seen a re-rating. Some pockets are seeing irrational exuberance,” Buch said.

Besides, Buch also acknowledged that certain segments of the market – especially the SME segment – are indicative of certain patterns indicative of price manipulation. The regulator is working on a robust was to evidence this for further action, Buch said.