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Summary: When a fund sells Rs 500 crore of one stock and buys Rs 500 crore of another on the same day, it still has to find Rs 500 crore in cash, because the money from the sale arrives separately. SEBI has proposed letting the two cancel out. Your NAV will not change. But on days of heavy buying and selling, funds will borrow less and hold less idle cash. That was a cost investors were paying without knowing it.
Take a Nifty rebalancing day. Two stocks leave the index and two enter. Every index fund sells the outgoing stocks and buys the incoming ones at the close, so that it tracks the index it has promised to track.
Suppose a fund sells Rs 500 crore and buys Rs 500 crore. Its net cash requirement is nil. But under the present rules the purchase and the sale are two separate obligations, each settled in full. The fund pays Rs 500 crore for what it bought and separately receives Rs 500 crore for what it sold.
The Rs 500 crore has to come from somewhere. Either the fund keeps that much idle cash, which lowers returns, or it borrows for a day, which costs money. In both cases the investor pays for a gap that exists only on paper.
Why funds pay in full
In the 1990s, Indian markets ran on borrowed money and promises: badla, settlement cycles that ran for weeks, and trades squared off before anyone delivered a share. The crashes of 1992 and 2001 were, at bottom, payment crises.
SEBI's answer was delivery-based settlement. If you buy, you take delivery. If you sell, you deliver. Institutions may not day-trade. To enforce this, every purchase is funded on its own and every sale is backed by shares on its own. That discipline is worth keeping, and SEBI has been careful not to disturb it.
What SEBI is proposing
The consultation paper gives its own example. A scheme trades three stocks in one settlement cycle:
| Stock | Bought | Sold | Treatment |
|---|---|---|---|
| A | Rs 1,000 | Nil | Outright purchase |
| B | Rs 1,000 | Rs 2,000 | Bought and sold |
| C | Nil | Rs 2,000 | Outright sale |
Today the scheme pays in Rs 2,000 and receives Rs 4,000. Under the proposal, A and C are netted against each other, so the scheme pays in Rs 1,000 and receives Rs 3,000. Stock B was bought and sold in the same cycle. That resembles day trading, so it continues to settle in full.
Four conditions hold the proposal together.
- Only cash is netted, not shares. Every share bought is delivered and paid for.
- Netting is allowed within a scheme only. A fund house cannot set one scheme's purchases against another scheme's sales. Each scheme remains a separate trust.
- If purchases exceed sales, the scheme funds the difference under the existing borrowing rules.
- AMFI will write the operating standards with custodians and clearing corporations.
Foreign portfolio investors were given the same facility in April. Comments on the mutual fund proposal close on September 24.
Who gains
On an ordinary day of SIP inflows, nothing changes. Netting matters only when a scheme buys and sells within the same cycle: index rebalancing, redemptions being met while fresh money is invested, and switches from one holding to another.
Index funds and ETFs therefore benefit most. Smaller fund houses gain proportionally more, since they have fewer bank lines to draw on. Debt schemes gain little, because most bond trading takes place off the exchange.
How much money is involved? SEBI has not said, and we will not guess. The saving is the cost of one-day funding on a few days a year. It is small against the industry's assets, but it is real, and it was avoidable.
What it means for you
This is not a fee change. Your expense ratio stays where it is.
It should help index funds track a little more closely. Rebalancing day is where an index fund's promise is tested, and this removes one reason for drifting from the benchmark.
The gain is in basis points, not percentage points. It should not be presented as a benefit to investors. It is a cost that investors should never have borne.
What to watch
The proposal came from the industry's own representations, which normally makes us look harder at who benefits. In this case the answer is reassuring: there is no new intermediary, no new fee and no new power to borrow.
But the industry has a habit. A narrow concession is granted, and then a request follows to widen it. Flexi-cap funds exist because that is how the 2020 rule on multi-cap funds ended. The next request will be for netting across schemes of the same fund house, and it will be described as efficiency. In substance it is one scheme lending to another, which is what the segregation rules exist to prevent. SEBI has said no in this paper. It should continue to say no.
The bottom line
This clearly benefits index fund investors. Nobody needs to do anything, and that is usually the best kind of regulatory news.
Also read: SEBI is fixing the auction. It should fix the right part
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