SEBI looks to allow Mutual Funds to sell CDS schemes; Reform CDS buying rules

SEBI seeks public comments for new CDS rule proposals aimed at improving liquidity in the corporate bond market.

The Securities and Exchange Board of India (SEBI) is proposing to allow mutual funds to sell CDS (Credit default swaps), and reform some rules on buying them.

SEBI Bhavan at BKC Bandra in Mumbai.(PTI)

A CDS is a contract used for bonds wherein one party agrees to pay a bond investor a certain amount if the issuer of the bond defaults, thereby minimising losses. In return, the investor makes a periodic premium payment. This allows the investor to reduce risk, especially for corporate bonds with lower credit ratings, and is similar to an insurance scheme.

SEBI released a consultation paper on the matter on June 7, seeking comments from the public till July 1.

Mutual funds could only purchase CDS schemes earlier for their investments, and not sell them.

Mutual Funds can now, sell CDS schemes only after backing up the sale with cash, government securities, or treasury bills, according to the paper. It also said that CDS selling is proposed to not be allowed for overnight and liquid schemes.

For purchase of CDS, mutual funds can only buy CDS from CDS programmes rated by a credit rating agency. Mutual funds are now, also permitted to buy CDS on below investment grade securities.

The total amount CDS, both bought and sold, should also not exceed 10% of the mutual fund’s AUM (Assets under management), according to the paper.