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Soon, mutual funds will tell their investors how much risk they have taken to deliver returns.
SEBI has issued a consultation paper in which it has proposed disclosure of risk adjusted return (RAR) by fund houses. Simply put, the market regulator said that all schemes will have to disclose the level of risk taken by them to deliver returns.
Sharing the rationale, SEBI said, “It is felt that the RAR of a scheme portfolio represents a more holistic measure of the scheme’s performance because it quantifies the amount of return generated by a MF scheme for each unit of risk taken to achieve that return. Considering the significance of volatility of performance in determining the suitability of MF schemes, it is desirable that the RAR of the scheme is disclosed along with disclosure of its scheme performance.”
This has come after SEBI observed that only a few AMCs disclose risk adjusted returns in their fund factsheet and that too wasn’t uniform across the industry.
To make things simple, SEBI has proposed that fund houses should disclose information ratio (IR), which is simply the ratio of tracking difference (TD) and Tracking Error (TE).
IR = TD/TE
While TD is simply the difference between returns generated by the fund and its benchmark, TE is the standard deviation of the difference of daily scheme return and daily benchmark return over a period of time.
Higher IR represents better risk adjusted performance. Let us look at the table to understand this concept.
|
Schemes |
Scheme A |
Scheme B |
|
Tracking difference |
5% |
5% |
|
Tracking Error |
4% |
6% |
|
IR |
1.25% |
0.83% |
As you can see, while both Scheme A and B generated excess returns of 5% over their respective benchmarks, scheme A is better than scheme B in terms of RAR as the scheme A took comparatively lesser risk to deliver equivalent return.
SEBI said that IR will be a relative measure that can be used to compare RAR across MF schemes under a particular category with a common reference benchmark.
The market regulator has proposed that such a disclosure should be made available across promotion materials, product notes and AMCs/AMFI website. Also, all active funds be it equity, hybrid or debt funds will have to disclose IR on a daily basis.
Further, there is no need to disclose IR in passive funds as they already disclose TD and TE, which are sufficient to meet the volatility disclosure requirement, said SEBI.
You can submit your feedback to SEBI by July 19, 2024. Click here to submit your feedback now.
