How Sebi’s 'execution only platforms' for MFs remove regulatory grey area
June 14, 2023
Digital platforms only offered execution services, but licenced as registered investment advisers
The Securities and Exchange Board of India (Sebi) has issued a circular, creating a new category of intermediaries – execution only platforms (EOPs).
Why?
Digital platforms earlier got registered investment adviser (RIA) licence, but most of their business was just to allow investors to buy and sell mutual fund schemes on their platforms. Investment advisory was not a service that these platforms offered to their users.
So, investors who were not advisory clients under the RIA regulations, “may not have recourse or protection for the risks associated with respect to such transactions", Sebi’s circular read.
That is also the reason why Sebi’s new regulations don’t apply to RIAs that offered execution services to advisory clients.
All digital platforms that were just offering execution services to investors will have to register themselves as an EOP with Sebi or the Association of Mutual Funds in India (Amfi). The EOP regulations also apply to stock brokers, who offered direct plans of mutual funds, but didn’t charge any brokerage or fees.
Two categories
Sebi has proposed to create two categories of EOPs.
EOP1 will act as an agent for mutual funds (MFs), integrate its systems with fund houses and registrar & transfer agents (RTAs record investor transactions and account balance for MFs), to facilitate the investor transactions.
As this category will be working on behalf of the fund house, it can charge the transaction fee and client on-boarding fee to the fund house.
EOP2 will act as stock brokers and would need to get themselves registered as stock brokers under the EOP segment of stock exchanges.
Now, EOP2 can charge a certain transaction fee directly to the investor. The fee will be capped within a permissible upper limit, which will be specified by the stock exchanges. Separately, any investor on-boarding fees would still need to be borne by the fund house, and not the investor.
Impact on direct plans
Sebi has directed Amfi and stock exchanges to come up with further guidelines and specifics of how these regulations will get implemented.
But as things stand, the total expense ratio (TER) of direct plans, which is what is charged to investors, is unlikely to go up because of the new rules.
Sebi rules state that fund houses cannot charge any fees paid to either category of EOPs, into the scheme of the mutual fund.
The new regulations are aimed at addressing a regulatory grey area, wherein digital platforms were using RIA licences and offering execution services only.
An RIA is only allowed to charge an advisory fee and not any execution or commission fees, which is why an RIA is only allowed to offer direct plans of a mutual fund.
Now, if these digital platforms want to charge a transaction fee to investors, they can do so after registering themselves as EOPs.
So far, the business models of various digital platforms were focused on offering direct plans of mutual funds to investors for free of cost and gradually offer other investment products such as equities, IPOs (initial public offers of companies), futures & options, international equities, etc., where they could charge brokerage fees.
Given the high competition among the digital platforms, it is unlikely that they would want to start charging any significant transaction fees to mutual fund investors, although if they opt for EOP2 category, regulations allow them to charge investors.
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