To, 30th Dec 2017 Securities and Exchange Board of India SEBI Bhavan, Mumbai. Via email: mfcomments@sebi.gov.in Dear Sir/Madam, Sub: Consultation Paper on Permitting Mutual Funds to participate in Commodity Derivatives Market At the outset, we, at Indian Association of Investment Professionals (IAIP), a member society of the CFA Institute appreciate the opportunity to submit our response to Consultation Paper on Permitting Mutual Funds to participate in Commodity Derivatives Market. IAIP is an association of over 2000 local investment professionals who are CFA charter holders and about 4000+ professionals who have cleared exams, eligible and awaiting charter. The Association consists of portfolio managers, product managers, credit rating analysts, valuation professionals, security analysts, investment advisors, and other financial professionals, that; promote ethical and professional standards within the investment industry, facilitate the exchange of information and opinions among people within the local investment community and beyond, and work to further the public's understanding of the CFA designation and investment industry. CFA Institute is a global non-profit association of investment professionals with over 149,000 members in over 140 countries. Through our global research and outreach efforts, CFA Societies around the world endeavour to provide resources for policy makers, financial services professionals and their customers in order to align their interests. Our members engage with regulators in all major markets. Through our policy positions and surveys, we have advocated for strengthening fiduciary responsibility of advisers, and improving transparency of various financial instruments. With regards to the above mentioned consultation paper, we have proposed few suggestions. CFA Institute Research Foundation s monograph on Commodities as an Investment is also attached along with our response. This discusses the instruments that provide exposure to commodities, the measures and historical record of investment performance, evidence about the benefits of strategic versus tactical allocations, and recent developments in the market. We would be happy to hear and discuss the merits / demerits of suggestions proposed by other practitioners and request to be included in the deliberation process. 1. Details on our Association: Name: Indian Association of Investment Professionals (CFA Society India). Contact number : +91-9836188553 Email address : advocacy@iaipirc.org Postal address : Naman Centre, Bandra Kurla Complex, Mumbai
2. Suggestions/Comments: Indian Association of Investment Professionals (CFA Society India). S.No. Pertains to Point Suggestions / Rationale No. Comments 1. 5.3.1. Whether Yes, MFs should be Commodity derivative provides diversification benefits MFs can be permitted to to retail investors who may not have expertise to deal permitted to participate in in commodities on their own. Historical data suggest participate in derivative that including in portfolio improves risk markets. derivatives? adjusted returns and reduces the volatility of the portfolio. Factors affecting prices are different than factors affecting other asset classes like equity and debt, it is recommended that there should be a dedicated fund manager with relevant work experience. Existing equity and debt fund managers may not be competent to manage such a risky asset class. Further, there should be separate analyst for agri,energy and metal commodities. Globally, there are many funds which allow retail investors to participate in derivative markets through a fund route. Eg PIMCO Commodities PLUS Strategy Adm having AUM of more than USD 3 bn Again, MFs participants will help improve quality of price discovery& liquidity and strengthen the Indian market.
2. 5.3.2.1.1. ETFs based on Commodity Derivatives: Can dedicated ETFs be considered on certain commodities or a basket of commodities as permitted by SEBI from time to time? 3. 5.3.2.1.2. Open- Ended Schemes (Passive/Active) based on Commodity Derivatives: Can open ended schemes be considered which intend to invest majority of the AUM in exchange traded derivatives as permitted by SEBI from time to time? Such scheme could be launched either as an index fund or could be actively managed. Yes, both single ETFs and multi ETFs should be allowed Yes, Open-ended schemes should be allowed. Single ETFs will allow investors to hedge against price rise of that particular and multi ETF can protect against overall inflation. Eg food grains ETF, energy ETF that will include (natural gas and WTI crude oil, Brent oil) etc. Globally, both category of ETFs have billions of dollar under management and help investors to diversify/invest in in a cost effective manner. Single ETFs like Gold ETFs and Silver ETFs are very popular globally and more details about diversified ETFs can be found on http://etfdb.com/type//diversified/ Unlike Gold ETF wherein actual gold is bought, considering the storability issues and cost for storing other commodities like crude oil, copper etc. Fund managers globally use the derivatives on underlying to create ETFs on many. Eg. United States Oil Fund and ipath Bloomberg Copper Subindex Total Return are popular. Leverage restrictions should be placed such that maximum exposure is 100% in such ETFs. Such schemes will allow investors to participate in systemic manner via SIP and benefit from price rise of such commodities while protecting against inflation in such commodities. Such funds help diversify overall investors portfolio to earn better risk adjusted returns and lower volatility.
5.3.2.1.3. 4. Commodity Arbitrage Funds: Can arbitrage funds be considered, where the scheme intends to benefit from the arbitrage opportunity available between cash and derivatives market in commodities as permitted by SEBI from time to time? 5. 5.3.2.1.4. Any other Category of Schemes 6 5.3.2.2.1. Hybrid Schemes / Multi- Asset Scheme: Can MFs be certain percentage of the AUM of existing hybrid/ multi-asset schemes in derivatives? Yes, Such schemes should be allowed. Yes, Many such schemes are possible Yes, this will help improve fund performance and lower volatility As banks and institutional participation are still not permitted to participate in derivative market, there are some excellent arbitrage opportunities available in the market, especially in agricultural commodities. Commodities arbitrage at times gives higher returns than equity arbitrage and debt arbitrage trades. Hence, having a multi assets arbitrage fund will help investors earn higher returns and help diversify overall investors portfolio to earn better risk adjusted returns and lower volatility. Besides arbitrage opportunity available between Cash and derivative markets, there are also other arbitrage opportunities like calendar spread; such trades have historically given above average returns and should be allowed in arbitrage funds Long short funds with positive net exposure in commodities should also be allowed. Such funds are better equipped to manage risk. Eg. A long short fund in can be designed in such a way that fund is long on one of the pulses and short on other pulses. This will immune the fund from price drop due to imposition on stock limits in pulses. Yes, Mutual Funds can have focused funds which invest in derivatives as well as linked companies. This will help retail investors to allocate funds between linked company and commodities derivatives with help of an expert. Besides, Hybrid Schemes/Multi-Asset schemes that invest in various asset classes can also reduce the volatility of the fund as factors that affect prices do not affect other asset class in the same manner.
7 5.3.2.2.2. Gold ETFs: Can MFs, in case of existing Gold ETFs, be in exchange traded derivatives with gold as underlying as part of gold related instruments to a certain extent? 8 5.3.2.2.3. Gold Fund of Fund (FoF) Schemes: Can MFs, in case of Gold Fund of Fund Schemes, be certain percentage of the AUM in Commodity Derivatives? 9 5.3.4. Whether there is a need for investment restrictions to be placed on MF schemes which invest only in futures? E.g. whether for portfolio diversification in a particular scheme, the MFs can be in exchange traded derivatives, not more than ten percent of the net Asset Yes Yes No This will help reduce the cost of gold ETFs as cost of holding and storing gold can be saved. This will help reduce the cost of gold (FoF) as cost of holding and storing gold can be saved in underlying schemes. Putting any limit to a scheme may not leave many active commodities to invest in. Eg. Ten percent limit is less, as most of the agricultural commodities are active only during the harvest season and during the remaining period investing in these commodities may not make investment sense. Again, an energy fund may not have 10 commodities to invest in to adhere to the stated limits. Alternative option could be to make it mandatory to disclose limits as per scheme offer documents so that investors can assess the risk involved.
10 5.3.5. Any other concerns or suggestions relating to participation of MFs in exchange traded derivatives. MFs should be allowed to participate in international exchanges as well International exchanges Participating in international markets will help safeguard investor s interest and will help fund earn higher returns as it provides more investment opportunity. Besides, investing in International exchange will help bring more liquidity and better price discovery in domestic market as arbitrage funds will participate in domestic as well as international market and will ensure both markets trade at parity. Performance Disclosures: Derivative investments involve complex strategies that are not easy to understand. Firms can be encouraged to refer to the Global Investment Performance Standards (GIPS) for calculating and presenting performance results. In any case, firms should be required to present performance results that will provide fair representation and full disclosure. If you or your staff have questions or seek further clarification, please do not hesitate to contact Vinay Bagri, CFA @ +91 98361 88553 or at advocacy@iaipirc.org Sincerely yours, Vinay Bagri, CFA Chair Advocacy Committee Indian Association of Investment Professionals, Member Society of CFA Institute