Exchange Board of India is planning to tighten rules on mutual funds’ investments in corporate debt papers in the wake of concerns over excessive credit risk in certain fixed income portfolios. The market regulator is looking to lower mutual funds’ investment limit for an individual company’s debt security. At present, a mutual fund scheme is not allowed to invest more than 15% of its net asset value in debt instruments issued by a single issuer which are rated not below investment grade by a credit rating agency. This limit, however, can be raised to 20% with prior approval of the trustees. Now, the regulator feels this limit is quite high after it found that a few mutual funds were holding lowly-rated papers in a big way. “Sebi rules on investment restrictions were framed when the supply of papers were less. But today, many papers are coming to the market. There is a need to relook at the policies,” said a person familiar with the development. A recent instance where two debt schemes of JP Morgan Asset Management — India Treasury Fund and India Short Term Income Fund — took a hit due to its exposure to auto ancillary company Amtek Auto is also prompting Sebi to act. Both these schemes have a total exposure of Rs 200 crore or about 6 % of the total AUM in debt papers issued by the company. Sebi has called for the books of JP Morgan Asset Management Company to examine the systems followed by the fund house, specially in the beleaguered two short-term debt funds. It wants to check how the two schemes landed into such a troublesome situation, an official familiar with the matter said. Calls made to Nandakumar Surti, CEO, JP Morgan Asset Management Company, went unanswered. After top credit rating agencies downgraded rating on Amtek Auto, JP Morgan was forced to ‘markto-market’ the value of the fund in line with the few credit rating, resulting in the scheme’s returns getting eroded. Now, JP Morgan stares at the prospect of a default as the paper’s tenure will expire in mid-September. “Fund managers should not make investment decision solely based on ratings but they should do their own due-diligence because issuers do rating-shopping,” the person said. Sebi feels the recent development cannot be overlooked as a one-off case. The regulator has sought information from some fund houses on their exposure to certain specific sectors and papers which have got downgraded. Rules do not allow fund houses to take exposure of more than 40% to non-banking finance companies. Sebi has informally asked mutual funds not to take exposure to risky real estate papers. Last week, Sebi once again asked fund houses to avoid taking excessive exposure to a particular sector or a company. The regulator had conveyed such concerns through industry body the Association of Mutual Funds of India (Amfi) in mid-August. It has asked fund houses to evolve an internal risk assessment mechanism to assess risk in a portfolio and will be meeting the risk management team of fund houses to understand their practices. Sebi is worried about the possibility of a cascading effect within the industry sparked by mass redemptions.