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The Alter-NATIVE series New regulations permitting AIFs to invest in commodities market

New regulations permitting AIFs to invest in commodities market

Hedge fund managers can invest in commodity derivative markets.
Edelweiss Feature Sep 8, 2017

In the current market scenario, institutional investors are precluded from accessing the commodities market. Consequently, the market suffers from sparse liquidity and tepid growth. On the other hand, Alternative Investment Funds (AIFs) have witnessed a sharp rise in activity, with both domestic and foreign investors vying to invest in these funds.

With a view to harnessing the phenomenal growth of this investment avenue as well as addressing the issues faced by the commodities market, SEBI on June 21, 2017, issued a circular titled, ‘Participation of Category III Alternative Investment Funds (AIFs) in the commodity derivatives market’ allowing category III alternative investment funds (AIFs) to invest in the commodity derivative markets.

While this certainly is a step in the right direction, it does come with caveats. The circular sets out several conditions, listed below, that need to be fulfilled in order to make such investments.

  • The AIF may invest only up to ten percent of the investable funds in one underlying commodity.
  • Category III AIFs can leverage or borrow subject to consent from investors, in accordance with SEBI regulations. Currently, these funds are allowed to leverage up to a maximum of two times the NAV of the fund.
  • Funds intending to invest in the commodities market will have to make necessary disclosures in the private placement memorandum.
  • The AIF also need to take consent from existing stakeholders, allowing dissenting investors an exit opportunity.  
  • The rules, regulations and instructions, etc. applicable to clients of the commodity market shall also apply to category III AIFs.

This is certainly a positive development as it will give AIFs an opportunity to invest in more value accretive avenues while at the same time infuse new life into the flailing commodities market.

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