SEBI Proposes Swing Pricing for Mutual Funds

The Securities and Exchange Board of India (SEBI) proposed swing pricing in mutual funds to discourage large investors from placing abrupt redemption requests. It also focuses on bringing fair treatment for entering and exiting investors of open-ended schemes. A full swing is required at times of stressed market conditions, while a partial swing is allowed during normal times. 

The introduction of swing pricing minimises the benefit of the first-movers during high redemptions in mutual fund schemes. It will also minimise the risk of a run on the scheme. Generally, the fund manager will be forced to sell the most liquid and high-rated debt securities to ease redemption pressure. This leaves the existing investors with exposure to relatively low-rated debt instruments. 

The secondary bond markets do not provide the level of liquidity that the stock markets do. Hence, they cannot absorb a large number of debt papers in a short period. The introduction of swing pricing will help adjust the net asset value (NAV) of a fund to pass the incurred transaction costs to the investors associated with the transaction. 

SEBI has proposed a swing of 2% for high-risk mutual fund schemes. This means that those investors who redeem their units at times of distress will have their NAV lowered by 2%. SEBI has said that the swing pricing is not applicable for a redemption amounting to up to Rs 2 lakh for retail investors. This limit is up to Rs 5 lakh for senior citizens. 

In an environment where liquidity challenges are persistent, SEBI’s proposal to introduce swing pricing highlights the possibility of the quoted bid and ask spreads and overall transaction cost increasing. They may not necessarily be indicative of the executed prices in the markets. In these situations, swing pricing helps protect existing investors’ interests and the worth of the overall capital. 

When swing pricing is imposed due to high redemption pressure, the NAV of a mutual fund plan will fluctuate, and the investors redeeming or purchasing units will bear the transaction costs. There will be no impact on the existing investors. This practice is widely adopted in developed markets such as the United States and the United Kingdom. 

The introduction of swing pricing will levy costs on investors placing redemption requests as they drive the downward movement of the fund’s NAV. The swing pricing will incentivise investors entering the fund as they limit the fall in the NAV. The NAV will be adjusted when the net outflows are higher than the swing threshold. A lower NAV will be offered for the new investors at such times. 

At times when the markets are dislocated, SEBI would stipulate the minimum swing factor. It will be risk-based, and the fund house may opt to impose a higher swing factor considering all the factors and in the best interest of existing investors. 

For any clarifications/feedback on the topic, please contact the writer at vineeth.nc@cleartax.in