DSP mutual fund was undercharging the expenses incurred on managing its Nifty 50 ETF to make it attractive for investors until the scheme's assets under management (AUM) scaled up, violating a Sebi circular
The Securities and Exchange Board of India (Sebi) imposed a penalty of Rs 1 lakh each on DSP Investment Managers Private Limited and DSP Trustee Private Limited for absorbing a part of the expenses incurred to manage their DSP Nifty 50 Exchange-Traded Fund (ETF ).
DSP incurred 0.16 per cent as expense ratio for managing the NIfty 50 ETF but was charging investors of the scheme only 0.07 per cent. The remaining 0.09 per cent was being borne out of own pocket by DSP.
This action violated the 2018 Sebi circular about charging mutual fund management expenses to the schemes only. Sebi laid down in its 2018 circular that all scheme-related costs should be charged to the schemes only, and no AMC, associates, sponsors, trustees, or any other firm shall bear or pay the said mutual fund management expenses.
"Though the expense amount of Rs 53,238 borne by the AMC was minuscule in absolute terms, however, there is no iota of doubt that the said noncompliance is not merely a technical violation but is a deliberate one," said Vijayant Kumar Verma, adjudicating officer, Sebi, as per various media sources.
Why Did DSP Undercharge Expenses For Its Passive Nifty 50 ETF?
DSP tried to justify its position of undercharging the Nifty 50 ETF by giving reasons to Sebi in a letter dated June 2022. It said that DSP never intended to mis-sell its products and only did this practice to make the scheme attractive while it scales up the scheme's assets under management (AUM.)
"The operating cost of the scheme as % of AUM (assets under management), if all expenses are to be borne by the schemes, will be high initially when the scheme is scaling up its AUM. If TER (total expense ratio) is increased, it will further discourage investors from investing in this scheme and thus restrict its capability to increase the AUM. With the increase in the AAUM (average assets under management), the operating expenses as % of AAUM will gradually reduce, and the total scheme expenses will be below the TER charged," said DSP in the letter to Sebi.
DSP also argued in its defence that the total expenses it incurred on managing the Nifty 50 ETF at 0.16 per cent were lower than the upper limit specified by Sebi at 1 per cent for passive mutual funds.
Sebi said in the order that if a mutual fund scheme starts to disclose a lower total expense ratio than actually incurred, it will be misleading because this practice has the potential to create anomalies in the mutual fund industry.
This is because profitable AMCs or AMCs with deep pockets can afford to pay the scheme's expenses from their own books, while small AMCs might not be able to bear such costs from their books.
In an earlier 2019 circular, Sebi permitted AMCs to absorb up to two basis points of the scheme's asset management expenses, but only if the scheme's costs exceeded the upper limit of expenses, which was 1 per cent in the case of ETFs.