On June 18, 2021, the Securities and Exchange Board of India (SEBI) has issued a circular for the norms for investment and disclosure by mutual funds in derivatives.
SEBI vide Circular No.Cir/IMD/DF/11/2010 dated August 18, 2010 has, inter alia,prescribed the guidelines for participation of mutual fund schemes in Interest Rate Swaps (IRS). Paragraph 8 has been modified of the aforesaid circular as follows:
- Mutual Funds may enter into plain vanilla Interest Rate Swaps (IRS) for hedging purposes. The value of the notional principal in such cases must not exceed the value of respective existing assets being hedged by the scheme.
- In case of participation in IRS is through over the counter transactions, the counter party has to be an entity recognized as a market maker by RBI and exposure to a single counterparty in such transactions should not exceed 10% of the net assets of the scheme. However, if mutual funds are transacting in IRS through an electronic trading platform offered by the Clearing Corporation of India Ltd. (CCIL) and CCIL is the central counterparty for such transactions guaranteeing settlement, the single counterparty limit of 10% shall not be applicable.”
This is a good step by SEBI. The mutual funds are not supposed to take naked positions in IRS too. By this circular, mutual funds cannot take positions to profit from directional calls on interest rates without a corresponding exposure. Limit is 10% per counter-party is a good risk mitigation mechanism. A welcome move by SEBI