SEBI plans to give more teeth to mutual fund trustees, making them more accountable

In its latest proposal, SEBI wants trustees to be given more powers to focus on certain “core responsibilities”.

The Securities and Exchange Board of India (SEBI) recently published a consultation paper on the role and obligations of Mutual Fund (MF) trustees in order to address conflicts of interest among unitholders and stakeholders in asset management companies (AMCs).

In the three-tier structure of the Indian MF industry (sponsor, trustee and AMC), the Board of Trustees, or Trustee Company, holds the property of a mutual fund in trust for the benefit of unitholders.

While MF regulations provide guidelines to address conflicts of interest, there may still remain some areas that require trustees to pay specific attention to.

Potential conflicts may be investments by MF schemes in public issues of the sponsor or associates, sponsor group companies engaging in insider trading or front running by taking advantage of access to MF schemes, as well as sponsors influencing voting by MF schemes.

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“An AMC is a profit-making entity. SEBI wants to ensure that there are checks and balances on them. The regulator is always worried about mutual funds because these are the most retail of all the products. The level of regulations has always been the highest amongst all the asset classes,” said Sandeep Parekh, Managing Partner at Finsec Law Advisors.

Here are the key proposals made by the capital market regulator.

SEBI assigns KRAs to trustees

Over a period of time, the regulator has cast various responsibilities over the trustees to ensure that AMCs act in a manner that is not skewed in favour of AMC stakeholders.

In its latest proposal, SEBI wants trustees to be given more power to focus on certain “core responsibilities.”

These include ensuring the fairness of fees and expenses charged by the AMC and monitoring the performance of the schemes against peers/ benchmarks.

Trustees are also expected to investigate alleged misconduct, including market abuse/misuse of information by the AMC and undue influence by sponsors or associates.

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Presently, the trustees primarily rely on the AMCs for ensuring compliance with regulations and to confirm compliance in periodic reporting to SEBI.

SEBI is of the opinion that it is crucial that the trustees independently evaluate the extent of compliance by AMCs and not merely rely on submissions /external assurances made by them.

Trustees may also be tasked to examine instances of mis-selling by AMCs to boost Assets Under Management (AUM) and their valuation.

“To ensure that trustees devote time and attention to their core responsibilities, it is felt that for fulfilling other responsibilities, trustees may rely on professional firms such as audit, legal, merchant bankers. etc, for carrying out due diligence on behalf of the trustees,” SEBI said in the paper.

Apart from these suggestions, SEBI also plans to increase the minimum number of trustees from the currently prescribed four.

Indemnity provisions

According to SEBI, upon a review of the existing indemnity provisions concerning trustees in MF regulations, and on comparison with other regulations in the Trust Act and Pension Fund Regulatory and Development Authority (PFRDA), etc., it was observed that while some of the provisions in these legislation make trustees liable for negligence, MF regulations state that trustees shall not be held liable for acts done in good faith if they have exercised adequate due diligence.

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The regulator is now proposing that while trustees are responsible for the acts collectively undertaken as part of the board of the company in question, they should not be made liable for the acts committed individually by co-trustees that are beyond the powers delegated to them.

Whose job is it, anyway?

The capital market regulator is looking to clearly spell out the role, responsibility and accountability of the board of an AMC in the regulations, circular or guidelines for the mutual fund industry.

To this end, SEBI is proposing to streamline the responsibilities to ensure that trustees can devote attention to their fiducial obligations rather than being burdened with operational responsibilities.

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For example, under various sections on obligations, SEBI has suggested that the word “mutual fund” should be replaced by “AMC”.

The current obligations of the ‘mutual fund’ such as computation of the valuation of investment or net asset value, declaring dividends, disclosure of AUM and many others are proposed to clearly become the responsibility of the ‘AMC’.

In investor interest

To have an independent review mechanism for the decisions of an AMC from the perspective of the unitholders’ interest, SEBI has proposed that a Unitholder Protection Committee (UPC) may be constituted by the board of AMC.

The UPC is expected to protect the interests of unitholders of mutual fund schemes, redressal of their grievances, investor education and awareness.

Further, this committee is proposed to comprise at least three directors as members, wherein at least two-thirds of the members should be independent directors of the AMC.

Additionally, to ensure ease of access, SEBI has mooted a common platform for the dissemination of public announcements by all mutual funds on the lines of regulatory disclosures by companies on Indian stock exchanges.

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“Finance news and information is available on every platform possible currently. Right from your newspaper to social media. But a retail consumer is lost amidst all such news and facts because of which they are unaware of what is true and what is not,” said Manish Maryada, Chief Executive Officer, and Co-founder, Fello, a game-based savings app.

The common platform can host all public announcements such as notices and addenda issued across all mutual funds.

This significantly reduces the work of investors, who would have to take the trouble of navigating fund houses’ websites to search for such addenda.

Triggers for review

Over the past decade, there has been a fivefold increase in the size of the mutual fund industry. The industry’s AUM grew from Rs 7.93 trillion on November 30, 2012 to Rs 10 trillion in May 2014, and in the next span of about three years it crossed Rs 20 trillion in August 2017.

The size of the industry’s AUM crossed Rs 30 trillion in November 2020 and, recently in November 2022, it surged past the Rs 40 trillion mark.

Industry insiders believe that the heightened scrutiny may be a fallout of alleged misconduct at some of the industry’s top fund mutual fund houses.

“This is due to whatever has happened in the industry in the last two-three years. The SEBI has intervened to tell the trustees that this is their job. Mutual fund is a business of trust, and the business belongs to trustees. We have a fiduciary responsibility, as it is somebody else's money that we are managing,” said the head of a fund house, requesting anonymity.

In 2022, Axis mutual fund came under regulatory scanner after alleged instances of misconduct. After the fund house submitted an internal investigation report, SEBI is now said to be finalising an order on the matter.

In 2020, Franklin Templeton MF wound up six of its debt schemes after Covid-19-led debt market illiquidity came about. A forensic audit later pointed out that the firm invested heavily in unlisted debt securities, which were mainly illiquid. After SEBI penalised the fund house and its officials and trustees, Franklin Templeton MF appealed in the Securities and Appellate Tribunal where the matter is currently being heard.

SEBI has invited comments on the proposals put forward in the Consultation Paper on Review of Role and Obligations of Mutual Fund Trustees until February 24, 2023.