Mutual funds can enter into plain vanilla Interest Rate Swaps (IRS) for hedging purposes. The value of the notional principal in such cases must not exceed the value of respective existing assets being hedged by the scheme.
In case participation in IRS is through over the counter transactions, the counterparty has to be an entity recognized as a market maker by RBI and exposure to a single counterparty in such transactions should not exceed 10 per cent of the net assets of the scheme, Sebi said in a circular.
However, if mutual funds are transacting in IRS through an electronic trading platform offered by the Clearing Corporation of India Ltd (CCIL), the single counterparty limit of 10 per cent will not be applicable, it added.
In market parlance, an interest swap is a derivative product used for hedging interest rate risk by mutual funds. It is used between companies to swap their future interest rate payments from fixed to floating or vice-versa.