SEBI restricts MFs from investing in pre-IPO placements, limits participation to anchor, public issues

The Securities and Exchange Board of India (SEBI) has barred mutual fund schemes from participating in pre-IPO placements of equity shares and related instruments, restricting their participation strictly to the Anchor Investor portion or the public issue of an Initial Public Offering (IPO). The move aims to ensure that mutual fund schemes remain compliant with rules mandating investment only in listed or “to be listed” securities.

In a letter to the Association of Mutual Funds in India (AMFI), SEBI cited Clause 11 of the Seventh Schedule of the SEBI (Mutual Funds) Regulations, 1996, which states that all investments by mutual fund schemes in equity shares or related instruments must be made only in securities that are listed or will be listed on a recognised stock exchange.

Why the move

The clarification comes after SEBI received multiple queries from fund houses seeking permission to participate in pre-IPO placements, which typically occur before the opening of the anchor or public issue. The regulator warned that such participation could expose mutual fund investors to the risk of holding unlisted securities if an IPO were delayed or cancelled.

“If the schemes of the Mutual Funds are allowed to participate in pre-IPO placements, they may end up holding unlisted equity shares in case the issue or listing cannot be concluded for any reason, which would not be in compliance with the said clause,” SEBI stated in its letter, accessed by Moneycontrol.

“Therefore, it is hereby clarified that in case of IPOs of equity shares and equity-related instruments, schemes of Mutual Funds can only participate in the Anchor Investor portion or in the public issue,” the regulator added.

Industry reaction

The move has generated mixed reactions across the mutual fund industry. Some fund managers view it as a missed opportunity for alpha generation, especially in a market where IPOs are often “priced to perfection” and most early gains accrue to private investors and institutional participants.

“The regulator’s concern seems to be about liquidity and regulatory risk,” said one senior fund manager, requesting anonymity. “But liquidity risks can be managed under the existing disclosure framework — we already have stress tests and risk disclosures that account for such exposures.”

A regulatory official familiar with the development defended the decision, saying: “In the mutual fund regulations, the term ‘to be listed’ is not explicitly defined. Allowing pre-IPO investments could expose funds to situations where the expected listing does not materialise. Imagine a scheme holding shares of a company that never lists — that’s a compliance nightmare.”

Uneven playing field

Industry participants argue that the restriction could create an uneven playing field, favouring family offices, Alternative Investment Funds (AIFs), and other institutional investors who are still permitted to invest in pre-IPO rounds.

“When other regulated investors — such as AIFs and foreign institutions — can participate in pre-IPO deals, keeping mutual funds out seems unfair,” said another industry executive. “Mutual funds represent retail investors; with proper guardrails, this exposure could benefit the broader investing public.”

Fund managers also pointed out that anchor investments, while permitted, offer no pricing advantage. “Pre-IPO rounds often provide better entry prices, while the anchor book is fixed at the IPO price,” one AMC executive explained. “By the time the IPO opens, valuations are already rich, and the opportunity for outperformance is largely gone.”

Regulatory background

Sources suggested that SEBI’s decision may have been prompted by findings from recent inspections or compliance reviews. The regulator is believed to have observed instances of premature exposure to unlisted equities in certain schemes, prompting a precautionary directive to the entire industry.

The circular also directs AMFI to immediately communicate the instruction to all Asset Management Companies (AMCs) and ensure strict adherence.

While the move reinforces SEBI’s focus on investor protection and transparency, many in the industry see it as a step that could limit innovation and return potential for India’s Rs 60-lakh-crore mutual fund sector.

As one fund executive summed up: “This decision underlines SEBI’s intent to keep mutual fund portfolios clean and compliant — but it also narrows the industry’s flexibility to compete with private and institutional capital in capturing early-stage opportunities.”