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How SEBI changed the PMS business landscape overnight

The operators of India's Portfolio Management Scheme (PMS) have recently been served a curve ball by SEBI.

What happened?

It has something to do with the way PMSs report their 'benchmark'.

The new 'benchmark comparison and performance statement guidelines' released by the regulasebi-changed-the-business-landscape-for-portfolio-managerstor will negatively affect how PMSs operate and attract new customers. Like I said, game changer, but not in a good way. Good for the retail participants, so read on.

First of all you should know that the professional conduct of PMSs has been enforced by the regular quite a bit in recent years, but these new measures are among the most significant and hard hitting.

So what's changed now?

Starting April 1, 2023, PMSs will have a performance benchmark and will need to be open about the ACTUAL PERFORMANCE their investment schemes have produced for clients.

These benchmark comparisons are going to be more complicated for a layman to grasp initially, however, since the nature of a PMS's operations is way more complex than that of Mutual fund, the change in benchmark reporting is also fair and fitting in my honest opinion.

Let's dive into more technical details below with some demonstration.

Consider a PMS company that manages your investments and you also invest in their mutual fund schemes via SIPs. Now, even though the same company is providing you PMS and MF services, both services differ in the following ways:

1. Style of management (PMS is more personalized, MF is generalized)

2. Cost being levied on you (higher in PMS, lower is MF)

3. Asset allocation (PMS is more varied, MF is mostly focused)

4. Entry ticket size (PMS entry is Rs. 50lacs, MF is as low as Rs. 100)

PMS may either impose a flat fee or one that is linked to performance, though the latter is more typical. The fee structure is typically 2/20, meaning 2% of Asset Under Management (AUM) annually and 20% of the profits above the predetermined benchmark returns- this is why the new regulations are going to hurt the PMS's.

Currently transparency in setting these predetermined benchmarks is a major issue. There was no stopping a PMSs from choosing a less risky benchmarks like NIFTY50 which comprises of large cap stocks only (safer investments) while PMS investment could comprise of much riskier stocks like small and mid caps.

SEBI has addressed this issue to stop the unfair way PMS clients have been treated so far with the new regulation.

To give the PMSs a benefit of the doubt here- calculating an effective or uniform benchmark is not that simple. It is difficult to come up with a reliable benchmark because the returns vary from one client to another due to the personalized nature of portfolios with added complication of funds inflow/outflow. So PMS companies take the easy and richer route of reusing the MF benchmarks while PMS clients get no option but to take what they are told at face value and bear whatever charges are being levied on them, including losing more money than they ideally should by way of higher profit sharing amounts.

So how did SEBI come up with a way to determine the true Benchmark for PMSs?

The PMSs will now manage client funds in line with a broad investment strategy laid out in advance.

Strategies can be Equity, debt or hybrid, even multi-asset and each strategy will have up to three benchmarks specified by the Association of Portfolio Managers in India (APMI).

Simple, right?

So why will this make PMSs unhappy?

Because when a centralized body instructs the determination of good job vs. bad job, some real jobs are bound to be lost.

If this wasn't enough, PMSs will also be required to release time-weighted rate of returns (TWRR) for their performance, revealing the relative performance in all marketing materials where performance is being discussed. Phew. The data must also be presented clearly and distributed frequently, according to the new guidelines.

Now these seemingly simple but profound changes, sound intuitive, don't they? They have come much later than they should have but it's a huge relief to see it happening.

PMSs will take time and have to incur huge operational costs to adjust their management and marketing styles to comply with the regulator's asks (read conditions).

PMSs won't be alone in their unhappiness. Their previous clients are in for a shocker and disappointing revelations about actual vs. window dressed returns.

It will be like realizing the GUCCI you bought for full price was sourced from Sarojini Nagar.

Thanks for reading!



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