It is the outcome of an announcement made by Chidambaram in his latest budget speech where he called for a market-based instrument on complexity and implicit risks.
Roopa Kudwa, managing director and CEO, Crisil, said, These levels reflect the ease of understanding and analysing the risk elements in financial products. The financial instruments will be classified under three levels of complexity simple, complex and highly complex. Under the initial coverage, we have already covered 77 instrument types under these categories. Of these, 21 have been classified as simple, 27 complex and 29 highly complex products.
Kudwa said plain vanila debt, balanced mutual funds (MFs) have been categorised under simple complexity levels. Exchange traded equity futures are classified as complex products while products like equity-linked debentures, OTC cross-currency swaps funds have been tagged highly complex.
She said the initiative of launching complexity levels is on a voluntary and pro-bono basis and is designed following a survey across retail and institutional segments, which revealed that general awareness and understanding of complex financial products is shallow across both the categories of invesors. The complexity of these products also keeps retail investors out of potential investment avenues.
Crisil said the current list of 77 instruments will expand over time and be updated every six months. The complexity levels list will be made available on its website. Every Crisil rating release and rating report will refer to the complexity of the instrument class being rated.
In a presentation, Kudwa said there were four parameters based on which three complexity levels were classified. These are ease of calculation of payout and returns, clarity on timing of cash flows, number of counterparties involved in the transaction and familiarity of market participants with the instrument.
Crisil claimed that introduction of this service will help both the retail as well as institutional investors, as retail investors can make a choice to restrict investment portfolios to instruments and products that they can understand. The institutional investors can set up their investment decision processes in keeping with the complexity of the product being evaluated.
It will also benefit the issuers and financial intermediaries in deciding the target segment for each product and directing selling efforts accordingly. It will also help address the problem of mis-selling, which has been the major head-ache for the regulators.