SEBI (CAPITAL MARKET) AND ITS FUTURE GROWTH IN INDIAN ECONOMY

INTRODUCTIONThe pace of economic development of any country is greatly influenced by capital formation, as it is the kingpin of economic advancement. And, the most important source of capital formation is the capital market which pools the capital resources of the country. Capital market, however, is a complex place fraught with risks which a small investor cannot afford to take. There are innumerable factors which constantly influence the behaviour of the capital market .The Securities and Exchange Board of India (frequently abbreviated SEBI) is the regulator for the securities market in India. It was established in the year 1988 and given statutory powers on 12 April 1992 through the SEBI Act, 1992.With the announcement of the reforms package in 1991, the volume of business in both the primary and secondary segment of the capital market has been increased enormously till now.

A multi crore securities scam rocked the Indian financial system in 1992(Harshad Mehta scam). The then existing regulatory framework was found to be fragmented and inadequate and hence, a need for an autonomous, statutory, and integrated organization to ensure the smooth functioning of capital market was felt. To fulfil this need, the Securities and Exchange Board of India (S.E.B.I), which was already in existence since April 1988, was conferred statutory powers to regulate the capital market.

STRUCTURE OF SEBI

Initially SEBI was a non statutory body without any statutory power. However in the year of 1995, the SEBI was given additional statutory power by the Government of India through an amendment to the Securities and Exchange Board of India Act 1992. In April, 1998 the SEBI was constituted as the regulator of capital markets in India under a resolution of the Government of India.The SEBI is managed by its members, which consists of following: a) The chairman who is nominated by Union Government of India. b) Two members, i.e. Officers from Union Finance Ministry. c) One member from The Reserve Bank of India. d) The remaining 5 members are nominated by Union Government of India, out of them at least 3 shall be whole-time members.

OBJECTIVE OF SEBIThe primary objective of SEBI to promote healthy and orderly growth of securities market and investor protection. The objectives of SEBI are follows: To protect the interest of investors, so that there is a steady flow of saving into the capital market. To regulates the securities market and ensure the fair practices. To promote efficient services by brokers, merchant bankers and other intermediaries, so that, they become competitive and professional.

FUNCTIONS AND RESPONSIBILITIESThe Preamble of the Securities and Exchange Board of India describes the basic functions of the Securities and Exchange Board of India as "...to protect the interests of investors in securities and to promote the development of, and to regulate the securities market and for matters connected therewith or incidental thereto".SEBI has to be responsive to the needs of three groups, which constitute the market: The issuers of securities The investors The market intermediaries.

Mutual Funds

Mutual funds are financial intermediaries which collect the savings of investors and invest them in a large and well diversified portfolio of securities. The major advantages for the investors are reduction in risk, expert professional management, diversified portfolio and tax benefit. By pooling of their assets through Mutual Funds, Investors achieve economies of scale. Mutual Funds are to be established in the form of Trust under Indian Trust Act, and are to be operated by Asset Management Company (AMC). Mutual Funds dealing exclusively with Money Market Instruments are to be regulated by RBI. Mutual Funds dealing primarily with capital market and also partly in Money Market Instruments are to be regulated by SEBI. All schemes floated by Mutual Funds are to be registered with SEBI.

SEBI Regulation on Mutual Funds:Securities & Exchange Board of India had issued a set of regulations and code of conduct as SEBI (Mutual Fund) Regulations, 1996 on 9th December 1996 for the smooth conduct and regulation of mutual funds. Recently, SEBI has issued updated regulations as SEBI (Mutual fund) Regulations 2011 on 07 Jan 2012 covering all amendments up to Dec 2011. These guidelines lay down certain criteria for investment, disclosure, accountability and distribution of profits to its members. The salient features of these regulations include various aspects relating to Registration of Mutual Fund, Constitution and management of mutual fund & rights and obligations of trustees, Constitution and management of Asset Management Company and custodian, Restrictions on business activities of AMC and its obligations, Schemes of mutual fund, Investment objectives and valuation policies, Advertisement code, Code of conduct, Restrictions on investments, Investment valuation norms, Accounts and Offer documents.

Literature review

PASHA SHAIK ABUDL MAJEEB, KRISHNA R.VAMSI, KIRAN V. HEMANTHA GOPI (2012) found that the SEBI should stop being pre-occupied with day-to-day regulations and become more of a visionary. The SEBI can ensure a free and fair market and take India into league of major global capital markets in the next round of reforms. To enable this, it has to thoroughly review its structure and functioning. The SEBI has to balance between the costs of regulation and market development. There should be cross-border cooperation between various regulators and between regulators and industry.

James P. M. and Narayanan K.S.Manoj (2010) Mutual Funds is to provide better returns to investors by minimizing the risk associated with capital market investment. The Mutual Fund industry has been in operation in India since 1964 and it occupies a pivotal place in Indian Capital Market for mobilising small savings and channelising it to the field of investment. Though there has been a tremendous growth in the Mutual Fund industry in India over the four decades of its existence, there has been violent fluctuations and even negative growth in some years. Securities and Exchange Board of India (SEBI), the watch and ward of Indian Capital Market has come out with separate regulations for the organisation and operation of mutual funds and thereby has been to an extent successful in bringing the mutual fund industry to the right track.

Kumar Aayush, Pegu Dhiren, Shashank Prateeti Goyal The scope of the standards required to be adhered to under the FII Regulations is very widely worded as a result of which the regulations become vague. It thus becomes impossible to determine the content of the provisions which in turn makes it impossible to fix the responsibility. Thus, for effective enforcement of FII Regulations, it is extremely important that this loophole be plugged to provide clarity to the scope of law governing the FIIs.

Singh Rajiv Kumar (2012) analyse whether SEBI is able to regulate the activities in Mutual Fund Market and whether its regulatory role is capable to protect the interest of huge investors. This study also attempts to analyse the shortcomings (if any) in the regulatory regime and suggest some measure to increase its effectiveness. The advantages for the investors are reduction in risk, expert professional management, diversified portfolio, liquidity of investment and tax benefit. This fast grown industry is regulated by the Securities and Exchange Board of India (SEBI).

Analysis and FindingsFrom a single-player monopoly in 1964, the Indian mutual fund industry has evolved into a high growth and competitive market on the back of favourable economic and demographic factors. As of August 2012, 44 asset management companies (AMCs) were operating in India with assets under management (AUM) of INR 6.4 trillion. However, after several years of persistent growth, the industry witnessed consistent declines of 6.3 percent and 5.1 percent in its AUM during FY11 and FY12, respectively1. One of the reasons could be the changes in regulatory guidelines-example ban on entry load, stringent KYC norms, guidelines on transaction charges, tightening valuation and advertisement norms - which were introduced in a short span of time thus giving less time to the industry to adjust in the new environment.

Further, the penetration of mutual funds in India (as measured by the AUM/GDP ratio) remains low at 4.7 percent as compared to 77.0 percent in the US, 41.1 percent in Europe and 33.6 percent in the UK. Mutual funds also constituted only 3.3 percent of households financial savings in FY10, which further contracted to -1.2 percent and -1.1 percent in FY11 and FY12, respectively, due to large redemption and capital losses.

Besides low penetration, concentration of mutual funds to a few major cities has been another concern for the sector. Most AMCs and distributors have limited focus beyond the top 20 cities, as is evident from the limited distribution channels and limited investor servicing available beyond these cities. The top five cities contributed approximately 71.1 percent of the total AUM of the mutual fund sector, with Mumbai only accounting for about 42.1 percent in FY12. Lack of incentives for distributors to expand in small cities has resulted in mutual funds becoming an investment product in the hands of urban Indians.

Such challenges have led the Securities and Exchange Board of India (SEBI) to adopt certain measures to re-energize the mutual fund industry with an objective to restore sustainable high growth for the sector. To start with, AMCs are allowed to charge an additional total expense ratio (TER) upto 30 bps, if 30 percent of their net sales or 15 percent of their AUM (whichever is higher) originates beyond the top 15 cities. If inflow from beyond the top 15 cities is less than 30 percent of net sales or 15 percent of AUM, the proportionate amount will be allowed as additional TER. While this step may reduce investors returns in the short term it may give AMCs more scope to incentivize distributors to expand their geographical reach. SEBI has also decided that AMCs should not bear the service tax (12.36 percent) payable on investment and advisory fees; instead, it can be charged in addition to the TER. This move is in line with the SEBIs attempt to bring the mutual fund sector at par with other sectors.In short-term, investors returns may be affected due to this move but investors are bound to gain in the long-term as AUM increases. In order to help AMCs widen their customer base in tier-IV to tier-VI cities, SEBI has also relaxed the mandatory requirement of a permanent account number (PAN) card or bank account for cash investments of up to INR 20,000 per financial year. Further, the regulators recommendation to include equity mutual fund schemes under the Rajiv Gandhi Equity Savings Scheme (RGESS) that offers tax breaks to small investors could help AMCs attract new investors in capital markets.In another step to stimulate the distribution network, SEBI has proposed to simplify the distributors registration process and widen the distributor by including postal agents, retired officials from government, banks, retired teachers and other similar professionals (such as bank correspondents) for the distribution of simple products. Although this could help AMCs expand their footprint, they will need to be cautious of the increased risk of mis-selling schemes due to lack of knowledge on investors part. SEBI has introduced various levels of certification and registration depending on products and services offered, but a mechanism to monitor compliance by the individuals must be identified.SEBI has also mandated a single expense structure under a single plan to eliminate differential treatment between retail and institutional investors. However, to promote direct investment and to be fair to direct investors, a separate plan for direct investments with a lower expense ratio and a separate net asset value (NAV) has been proposed. One of the outcomes of this step could be less distributors commissions as many institutional clients who are major investors and are well-informed may prefer the direct route. But on the other hand, retail investors who need help to select the most suitable scheme and complete requisite paperwork would still invest through a distributor. Low customer awareness and financial literacy are one of the biggest roadblocks in channelizing household savings into mutual funds. In a bid to enhance customer awareness, SEBI has mandated AMCs to set aside at least 2 bps of their daily net assets annually for the investor education campaign. AMCs should also make disclosures regarding the investor education and awareness initiatives undertaken. To further strengthen the regulatory framework and to make it increasingly transparent, SEBI has asked AMCs to upload monthly portfolio disclosures and half-yearly financial results on their websites. It has also mandated AMCs to report additional annual disclosures such as gross inflow, net inflow, average AUM, and distributor-wise gross inflow on their websites. The regulator has also asked its panel to study regulatory provisions in some of the international jurisdictions (such as the US and the UK) to propose ways to increase inflow to mutual funds. The report is expected to be released in the next three to four months.While SEBI has announced various measures to increase the penetration and improve the distribution network, increasingly liberal TER with fungibility was expected. Currently, equity mutual funds can charge a maximum of 2.5 percent as TER, of which 1.25 percent may be allocated as fund management fees/charges and other expenses (such as marketing, distribution and operations) each. Any expense above 2.5 percent has to be borne by the AMC. Initially, SEBI proposed the removal of sub-limits on expenses, giving AMCs the freedom to allocate the 2.5 percent TER the way they wanted to. This could have helped AMCs to incentivize distributors more effectively and attract them to sell mutual funds more actively, which was hampered after the ban on entry loads.To summarize, enhancing TER (up to 30 bps) and charging service tax separately are expected to help fund houses improve their reach and energize the distribution network. Although investors returns will likely be compromised in the short term, enhanced presence and a rejuvenated distribution network are likely to be beneficial for investors in the long term. Relaxing KYC norms for small investors, widening the distributor network to include postal agents and retired officials, and recommending the inclusion of equity scheme mutual fund products under REGSS could help strengthen the last-mile connectivity in mutual fund distribution. Through its recent initiatives and announcements, SEBI has given a much needed boost to the mutual fund sector but the industry is waiting for a long term initiative by the regulator that will put this sector amongst the most preferred instrument of investment.References

Singh Rajiv Kumar (2012), Role of Securities & Exchange Board of India (SEBI) in Regulating Mutual Funds International Journal of Trade and Commerce, January-June 2012, Volume 1,No. 1.PASHA SHAIK ABUDL MAJEEB, KRISHNA R.VAMSI, KIRAN V. HEMANTHA GOPI (2012) A STUDY ON ROLE OF SEBI IN INDIAN CAPITAL MARKET: AN EMPIRICAL ANALYSIS, International Journal of Multidisciplinary Research, Vol.2 Issue 3.

James P. M. and Narayanan K.S.Manoj (2010), Role of Sebi in Regulation of Mutual Funds, Journal of Interdisciplinary Studies and Research, Vol. XI No. 2.

Kumar Aayush, Pegu Dhiren, Shashank Prateeti Goyal, ROLE OF SEBI AND FII, ssrn.com/abstract=2235987.

RBI Annual Report FY12 AUM by geography, AMFI, March 2012

Steps to re-energize Mutual Fund Industry, SEBI. September 2012

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