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Don't Panic if Mutual Funds Restrict Your Redemption

Last year, debt mutual fund investors were shocked, when J P Morgan AMC clamped down on the redemption from two of its debt schemes. It announced temporary restrictions on redemption, of only up to 1% of the units outstanding, on a given day.

This, naturally, caused a great concern to the regulator i.e. SEBI.

Accordingly, with a view to protect the investors, few months later it announced the 'revised prudential limits on investments' to make the debt mutual funds more safe and more diversified.

Taking another step in that direction, SEBI has now notified a few more rules on 'Restriction on redemption in Mutual Funds', vide its circular dated May 31, 2016.

As per present laws, a Mutual Fund company "can" put a limit on the amount, that you can otherwise normally redeem without any restrictions.

This, of course, is subject to the approval of its Board of Directors and Trustees. However, the relevant provisions are quite general in nature. They do not lay down any specific conditions, nor the manner in which this can be done. This, obviously, leaves each company to take steps at its discretion, in case of any adverse developments.

Hence, SEBI had decided to bring in some specific provisions on placing restrictions on redemption.

However, the basic idea behind these new guidelines is that it should be applicable only when there is a crisis in the overall market

Exceptional circumstances of a specific entity (such as default by one company viz. Amtek Auto in J P Morgan  AMC's two debt schemes) SHOULD NOT trigger such restrictions.

Accordingly, henceforth, the following guidelines on limiting the mutual fund redemption will apply.

One. A mutual fund company can impose a restriction on redemption, under the following exceptional circumstances:

a. Liquidity Issues
Redemption can be limited, only when the market conditions become such that the liquidity of almost all securities is affected. If any particular investment has become illiquid due to poor decision-making, it shall not be the reason for any restriction on redemption. For such instances, AMCs should have appropriate internal guidelines and tools on liquidity management. Limiting the redemption as part of day-to-day liquidity management is not permitted.

b. Market failures, exchange closures
This would cover unexpected political, economic, military and monetary events or such other emergencies, that may impact the regular functioning of the exchanges or the course of everyday transactions.

c. Operational issues
Force majeure, unpredictable operational problems and technical failures could also be the reasons for limiting the redemption. However, it is important that such events should be reasonably unpredictable; occur despite effective disaster recovery mechanisms; or happen in spite of appropriate diligence of the third parties.

limit-on-mf-redemption
By limiting redemption, SEBI aims to protect your MF investment from domino effect.

Two. This restriction will, however 
a) NOT APPLY for redemption requests up to Rs.2 lakhs
b) And, where the redemption request is for a higher amount, the first Rs.2 lakhs would be redeemed without any restriction. Only the balance amount would be subject to the restrictions imposed.

Three. This restriction on redemption should not be for more than 10 working days in any 90 days period.

Four. This would be subject to specific approval of the Board and Trustees of the AMC; and should be immediately communicated to SEBI.

Five. All scheme related documents shall, prominently and extensively, disclose that redemption could be limited in cases of overall market crisis, and also specify the time limit on such restrictions.

Six. These guidelines apply to
- all new schemes to be launched on or after May 31, 2016 (i.e. the circular date)
- all existing schemes w.e.f. July 1, 2016

The J P Morgan type of shocks and scares are quite rare. Over the last 20-25 years, there have been only a few stray incidents of such nature. By and large, the mutual fund companies have managed their portfolios quite diligently and delivered admirable returns.

Therefore, if you have chosen your funds carefully , there is no need to panic when such occasional issues crop up. More often than not, such blips even out and your returns may not be affected. In fact, by forcing mutual fund companies to dump 'good' investments to meet your (unnecessary) redemption demands, you are only aggravating the problem.

In fact, I am certain that you would have definitely lost more money in co-operative banks, company fixed deposits and insurance policies, than what you are (wrongly) trying to salvage here.

So, be patient! You will be surely rewarded for it.

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