Market regulator Securities and Exchange Board of India (SEBI) has come out with a detailed circular detailing norms meant for the development of Passive Funds (Index Funds and Exchange Traded Funds) in India.
Here are some important provisions of the circular:
Debt ETFs/Index Funds: Index Constitution
- Constituents of the index are aggregated at the issuer level for the purpose of determining investment limits for a single issuer, group, sector, etc.
- Constituents of the index shall have a defined credit rating and defined maturity and the same shall be specified in the index methodology.
- Rating of the constituents of the index shall be of investment grade and above.
- Constituents of the index should have adequate liquidity and diversification (other than for the portion of indices comprising of G-sec and/or SDLs) at issuer level.
- Constituents of the index shall be periodically reviewed (at least on half-yearly basis).
- Debt ETFs/ Index Funds shall replicate the underlying debt index.
Single issuer limit for debt indices
For an index with at least 80% weight of corporate debt securities, the single issuer limit will be:
- AAA rated securities: A single issuer shall not have more than 15% weight in the index.
- AA rated securities: A single issuer shall not have more than 12.5% weight in the index.
- A and below rated securities: A single issuer shall not have more than 10% weight in the index.
Hybrid index (comprising both corporate debt securities and Government Securities (G-sec) State Development Loans (SDL) with up to 80% weight of corporate debt securities:
- AAA rated securities: A single issuer shall not have more than 10% weight in the index. However, for AAA rated securities of PSU and AAA rated securities of PFI issuers the said limit can be 15%.
- AA rated securities: A single issuer shall not have more than 8% weight in the index.
- A and below rated securities: A single issuer shall not have more than 6% weight in the index.
For an index based on G-Sec and SDLs, single issuer limit will not be applicable.
The index shall not have more than 25% weight in a particular group (excluding securities issued by Public Sector Units (PSUs), Public Financial Institutions (PFIs) and Public Sector Banks (PSBs).
The index shall not have more than 25% weight in a particular sector (excluding G-sec, T-bills, SDLs and AAA rated securities issued by PSUs, PFIs and PSBs). However, this provision shall not be applicable for sectoral or thematic debt indices.
AMCs will have to ensure that the updated constituents of the indices and methodology for all their Debt ETFs/Index Funds are available on their respective websites at all points of time. Further, the historical data of constituents of the indices since the inception of schemes will have to be disclosed on their website.
AMFI will issue a list of debt indices for launching debt ETFs/Index Funds within one month from the date of issuance of this circular.
Corporate Debt ETF/Index Funds: Debt ETFs/Index Funds based on Index of Corporate Debt Securities
Debt ETFs/ Index Funds based on index comprising only corporate debt securities shall be considered to be replicating the underlying debt index provided:
- Investment in securities of issuers accounting for at least 60% of weight in the index, represents at least 80% of net asset value (NAV) of the ETF/ Index Fund.
- At no point of time the securities of issuers not forming part of the index exceed 20% of NAV of the ETF/ Index Fund.
- At least 8 issuers from the underlying index form part of the portfolio of the ETF/Index Fund.
- The investment in various securities are aggregated at issuer level for the purpose of exposure limits.
Exposure limit to a single issuer by the ETF/Index Fund:
- AAA rated securities: Exposure to a single issuer by the ETF/Index Fund shall not have more than 15% weight in the portfolio.
- AA rated securities: Exposure to a single issuer by the ETF/Index Fund shall not have more than 12.5% weight in the portfolio.
- A and below rated securities: Exposure to a single issuer by the ETF/Index Fund shall not have more than 10% weight in the portfolio.
Total exposure of the ETF/Index Fund in a particular group (excluding investments in securities issued by PSUs, PFIs and PSBs) shall not exceed 25% of NAV of the scheme.
Total exposure of the ETF/Index Fund in a particular sector (excluding G-sec, t-Bills, SDLs and AAA rated securities issued by PSUs, PFIs and PSBs) shall not exceed 25% of the NAV of the scheme. However, this provision shall not be applicable for schemes based on sectoral or thematic debt indices.
The Macaulay Duration (duration) of the portfolio of the ETF/Index Fund replicates the duration of the underlying index within a maximum permissible deviation of +/- 10%.
In case of Target Maturity (or Target Date) ETFs/ Index Funds, the following norms for permissible deviation in duration shall apply:
- For portfolio with residual maturity of greater than 5 years: Either +/- 6 months or +/- 10% of duration, whichever is higher.
- For a portfolio with residual maturity of up to 5 years: Either +/- 3 months or +/- 10% of duration, whichever is higher.
- However, at no point of time, the residual maturity of any security forming part of the portfolio shall be beyond the target maturity date of the ETF/ Index Fund.
The rating wise weightage of debt securities in the portfolio of ETF/ Index Fund replicates the underlying index. However, greater allocation of up to 10% of the portfolio may be made to higher rated debt securities.
G-sec ETF/Index Fund: Debt ETFs/ Index Funds based on G-sec, Treasury bills and SDLs
G-sec ETFs/ Index Funds shall be considered to be replicating the underlying index, provided:
- The duration of the portfolio of ETF/ Index Fund replicates the duration of the underlying index within a maximum permissible deviation of +/- 10%.
- ETFs/Index Funds replicating a Constant Maturity index may invest in securities with residual maturity within +/- 10% of maturity range of the index.
In case of Target Maturity (or Target Date) ETFs/ Index Funds, the following norms for permissible deviation in duration shall apply:
- For portfolio with residual maturity of greater than 5 years: Either +/- 6 months or +/- 10% of duration, whichever is higher.
- For a portfolio with residual maturity of up to 5 years: Either +/- 3 months or +/- 10% of duration, whichever is higher.
- However, at no point of time, the residual maturity of any security forming part of the portfolio shall be beyond the target maturity date of the ETF/ Index Fund.
Hybrid Debt ETF/ Index Fund - Debt ETFs/ Index Funds based on a Hybrid Index of Corporate Debt Securities and G-Sec/T-bills/SDLs
The exposure limit to a single issuer by the ETF/ Index Fund shall be as under:
- AAA rated securities: Exposure to a single issuer by the ETF/ Index Fund shall not have more than 10% weight in the portfolio. However, for AAA rated securities of PSU and AAA rated securities of PFI issuers the said limit shall be 15%.
- For AA rated securities: Exposure to a single issuer by the ETF/ Index Fund shall not have more than 8% weight in the portfolio.
- For A and below rated issuances: Exposure to a single issuer by the ETF/ Index Fund shall not have more than 6% weight in the portfolio.
Passive ELSS
Fund houses can now launch either active or passive ELSS in the open ended category. The Index Fund will be based on one of the indices comprising of equity shares from top 250 companies in terms of market capitalization.
Minimum subscription
- The minimum subscription amount under new fund offer (NFO) for Debt ETFs/ Index Funds will be Rs 10 crore and Rs 5 crore for other ETFs/ Index Funds.
- Alternative to launch of NFO for ETFs, the AMC may contribute the initial fund for unit creation. Subsequently, the AMC can transfer the units of such ETFs to market makers or other investors.
Liquidity window for investors of ETFs with AMCs
Investors can directly approach the AMC for redemption of units of ETFs, for transaction of up to Rs 25 crore without any exit load, in case of the following scenarios:
- Traded price (closing price) of the ETF units is at discount of more than 1% to the day end NAV for 7 continuous trading days, or
- No quotes for such ETFs are available on stock exchanges for 3 consecutive trading days, or
- Total bid size on the exchange is less than half of creation units size daily, averaged over a period of 7 consecutive trading days.
- Applications received from investors for redemption up to 3.00 p.m. on any trading day, shall be processed by the AMC at the closing NAV of the day.
Disclosure norms for ETFs/Index Funds
Both equity and debt ETFs/Index Funds will have to disclose the following on a monthly basis:
- Name and exposure to top 7 issuers and stocks respectively as a percentage of NAV of the scheme.
- Name and exposure to top 7 groups as a percentage of NAV of the scheme.
- Name and exposure to top 4 sectors as a percentage of NAV of the scheme.
- Change in constituents of the index on the AMC website on the day of change.
Rebalancing period for Equity ETFs/Index Funds
In case of change in constituents of the index due to periodic review, the portfolio of equity ETF/Index Funds will have to be rebalanced within seven days.
The circular comes into effect from July 1, 2022.
