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MF News SEBI allows covered calls in mutual funds

SEBI allows covered calls in mutual funds

Fund managers can generate marginal returns even in flat markets through covered calls.
Nishant Patnaik Jan 16, 2019

SEBI has opened up covered calls to the mutual fund industry.

Covered calls are a complex strategy in which a fund manager can write a call option contract if he has neutral view on a particular stock. Unlike derivative strategies where volatility has a key role to play, covered calls work well in flat market conditions. Through this, the scheme can generate money to the extent of premium paid by traders.

In a circular issued today, SEBI said that equity fund managers could write call options only under a covered call strategy for stocks traded on Nifty 50 and BSE Sensex.

However, the total notional value of such call options should not exceed 15% of the total market value of equity shares held in that scheme. The total number of shares underlying the call option should not exceed 30% of the unencumbered shares in a scheme. SEBI further clarified that schemes cannot write call option of a share if it is not underlying. Also, a call option can be written only on shares which are not hedged using other derivative contracts. The fund house will have to do mark to market valuation of NAV by factoring in respective gains or loss into the daily NAV of the scheme.

Earlier in August 2018, SEBI had constituted a sub-committee of the mutual fund advisory committee (MFAC) to look at the pros and cons of introducing covered calls in mutual funds.

A CEO of the large fund house requesting anonymity said that the market regulator wants to keep pace with the latest development in the fund management industry. “In my view, such a strategy is well suited for long term players like mutual funds. This would help investors generate marginal returns even during flat market conditions.”

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