EXPLAINED | What Sebi’s norms on execution-only platforms for direct MF investment mean for you

Capital market regulator Securities and Exchange Board of India (Sebi) has finally introduced a detailed regulatory framework for execution-only platforms (EOPs) for direct plans of mutual fund schemes, in a move aimed at better penetration of such instruments while protecting investors' interests. Execution-only platforms enable asset management companies (AMCs) to offer direct investment plans in this segment without the help of third-party distributors. The new framework will be in force on September 1.

Why a separate framework?

Currently, there is no specific framework for digital platforms to provide execution-only services in direct plans of MF schemes. Investors can participate in MF schemes in direct mode through AMC websites, mobile apps, and with the help of registered stock brokers, investment advisers, and portfolio managers through exchange-provided platforms such as NMF and BSE StAR MF. Investors can also participate via Sebi-registered money managers through platforms such as MF Utilities India and MF Central.

Sebi mentioned the need "to strike a balance between investor convenience and investor protection", according to a circular dated June 13.  

The framework is intended to make it more convenient for investors to park their money through EOPs as well as aid the ease of doing business for the platforms. Sebi has specified the nature of services that may be offered by EOPs, besides cyber security requirements, pricing of services, grievance redressal mechanisms, and technology-related requirements.

The regulator proposed such a dedicated framework in July 2022, stating that it may be the stepping stone for strengthening investors with technology along with the ability to invest directly in MF schemes.

What will the framework do?

It will:

• Mandate providers of direct MF execution-only services to act as a registered intermediary, an entity registered with industry body AMFI, or one with a limited purpose membership with bourses
• Restrict entities from operating as an EOP without obtaining registration from Sebi or AMFI, as the case may be
• Require execution-only providers to have adequate infrastructure to provide financial as well as non-financial services
• Ensure that proper risk management is in place 

Sebi has asked AMFI to: 

• Make necessary amendments for the implementation of directions 
• Provide the status of implementation to Sebi on a monthly basis
• Come up with the necessary guidelines for Category 1 EOP before September 1
• Monitor the operations carried out by AMFI-registered EOPs 
• How will EOPs be registered? 

How will EOPs be registered?

There will be two ways of registration: 

• As an agent of an AMFI-registered AMC
• As an agent of an investor registered as a stock broker  

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Difference between direct and regular MF plans

Direct MF plans have gained popularity among investors over the past few years owing to their cost-effectiveness relative to their regular counterparts. But what are these two types of plans?

A direct plan has a lower expense ratio than a regular plan. The expense ratio is the amount of fund assets used towards a slew of expenses related to areas such as money management. This is due to the presence of a third party in regular plans, unlike direct plans. It is because of the incidence of expense ratio that makes a direct plan technically more efficient compared to a regular plan. One can invest in a mutual fund in the direct mode without bearing additional charges, unlike in the regular mode. Simply put, investors get more bang for their buck in a direct plan than in a regular plan.

The framework is intended to make it more convenient for investors to park their money through EOPs. Sebi has specified the nature of services that may be offered by the EOPs, besides cyber security requirements, pricing of services, grievance redressal mechanisms, and technology-related requirements.

Categories of EOP registration 

Category 1 

The entity must sign an agreement with the AMC clearly defining the rights and obligations relating to EOP services. The entity will have an objective, a fair and transparent policy for providing execution services for the AMC's products.

Category 2 

The entity must establish the necessary arrangements with the bourses, clearly defining their rights and obligations relating to EOP services. 

What happens to existing platforms already operating under Category 1-like conditions?

The platforms, such as Utilities India and MF Central, provided by registrar and transfer agents (RTA) — which act as mediators between investors and fund houses — will have to register under either of the categories within three months from September 1. 

Besides, Sebi has proposed that mutual fund houses charge a standardised fee from investors to ensure greater transparency. The total fee charged to a mutual fund investor should be inclusive of all expenses, including brokerage paid by fund houses to purchase shares or other securities, according to a consultation paper floated last month.

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