The securities market regulator, Sebi, has told fund houses to strengthen market making while launching exchange-traded funds (ETFs). The regulator wants fund houses to empanel more brokers as market makers and allot a larger trading book to them for creating liquidity on the exchange, mutual fund industry officials said.

In the case of gold exchange-traded funds, the regulator wants asset management companies, or fund houses, to appoint more bullion traders who have exchange memberships as market makers.

Exchange-traded funds require a strong exchange platform as they are traded on the exchanges intra-day.

A market maker is usually a broker who buys or sells a particular stock or fund unit (in case of ETFs) on a regular and continuous basis at a publicly-quoted price. The market maker does spread trading, hoping to make a profit on the bid-offer spread, or strike a profitable buy or sell deal.

According to executives in a few mutual funds, the regulator's move is aimed at boosting liquidity on the exchange and create more counter-parties for these products.

"The role of market makers is to give two-way (buy-sell) quotes with the underlying NAV of the fund being the reference price. Market making ensures effective buying and selling of units with minimal impact cost," said India Infoline Asset Management CEO Gopinath Natarajan.

IDBI Mutual Fund, which closed its gold ETF a few days ago, has Riddhi Siddhi Bullion and Pushpak Bullion as its market makers. Both Riddhi Siddhi and Pushpak have trading membership on BSE and NSE. India Infoline Asset Management, which launched its Nifty ETF a month ago, has IIFL Securities as its market maker. Fund houses that launched ETFs a few years ago are also seeking the help of brokers to increase ETF trading on the exchange.

Popular stock ETFs such as Bank BeES, Kotak Nifty and Birla Sunlife Nifty are traded in the range of 1200 to 5000 units on an average every year.

Over a lakh of Nifty BeES - more popular among institiutional investors and foreign portfolio investors - units are traded on the exchange annually. Gold ETFs of HDFC, Birla and Axis Mutual Fund log average volumes in the range of 1500 to 4500 units annually. The more popular Gold BeES register over one lakh units every year.

"Smaller investors - especially in gold funds - will find the redemption process easier through exchanges. Asset management companies are not really happy to service small gold ETF investors in their offices. A strong exchange platform with good liquidity will help them cash out easily," a gold fund manager said.