The Securities and Exchange Board of India has issued a discussion paper on launching a fund of funds -- a fund created out of investing in the schemes of other mutual funds.

The regulator, in consultation with the Association of Mutual Funds of India, has proposed the following restrictions for such FoFs.

• An FoF scheme shall not invest in another FoF scheme.
• An FoF scheme shall invest its entire net assets in other mutual fund schemes, except the funds required for meeting the liquidity requirements for the purpose of repurchases.
• A mutual fund scheme shall not invest in an FoF scheme. Regarding recurring expenses and fees for FoF schemes, one suggestion is that the fees and other expenses charged by the other mutual fund scheme(s) (in which the FoF is investing) together with the management fee and expenses charged to the FoF scheme, should not exceed the total limits on prescribed expenses.

The rationale behind this is that the MF schemes in which the FoF scheme invests, are already charging expenses and fees as specified.

However, another suggestion from the industry is that monitoring and keeping a track of expenses of the FoF and other mutual funds schemes on daily basis would be very difficult.

The view is that the FoF scheme would have some expenses like marketing and distribution expenses and also would like to charge management fees, as it is providing service to investors.

It has been suggested that a maximum limit of 0.75 per cent of expenses, including management fees should be allowed in case of FoF schemes. Within this upper limit, the mutual funds can charge expenses depending on market forces.

At present, Sebi's MF Regulations restricts investment in other mutual fund scheme (under the same management or another mutual fund) up to 5 per cent of the net assets of the mutual fund and prohibits charging of management fees on such investments.  In view of these restrictions, a mutual fund cannot launch an FoF scheme.

According to Sebi, earlier mutual funds had a small number of schemes so the concept of FoF was not much feasible. Over the years, all mutual funds have launched a number of schemes and it is now possible for them to launch such FoF schemes.

It is also likely that a FoF scheme may like to invest in mutual funds schemes of other mutual funds subject to disclosures in the offer documents. The regulations, however, would need amendments to facilitate FoFs.