S Murlidharan

RBI’s special window for MFs is unlikely to have many takers

S Murlidharan | Updated on April 28, 2020 Published on April 28, 2020

Risk aversion by banks, along with the reluctance for on-lending may cause mutual funds to give the ₹50,000-cr credit line a miss

The Reserve Bank of India (RBI) on April 27 announced a special liquidity facility for mutual funds worth ₹50,000 crore as redemptions rose after Franklin Templeton closed six debt mutual funds. The Covid-19 induced lockdown has taken a toll on high-risk mutual fund schemes. According to the available data, the credit risk fund category saw its assets under management (AUM) dip by another 12 per cent in April to ₹48,392 crore, followed by a medium duration fund, where the AUM were down by another 9 per cent to ₹25,502 crore.

Redemption pressure is the nightmare of fund managers of open-ended schemes, that are characterised by the revolving door mechanism permitting free entry and exit based on net asset value (NAV). When panic grips the market, exiting is the norm. Franklin Templeton’s six schemes were in low-rated papers of companies in search of high returns and heightened AUM, an honour fund houses wear on their sleeves, sometimes casting caution to winds. It was to stem the exit that the six schemes were stopped by Franklin Templeton.

There is a view that the credit line offered by the RBI will have no takers, because banks are chary of risk-taking in a milieu of mounting NPAs, likely to be further exacerbated by lockdown. The RBI lends to banks through repo auctions, and they are expected in turn to on-lend to mutual fund houses which can either borrow on the basis of the collaterals in the form of bonds or sell the bonds to banks at a discount. Both options are non-starters. Banks don’t want to be singed by lending on the basis of suspect papers. And mutual fund houses are loath to sell the papers at a discount to banks.

Haircuts are anathema to fund houses. In fact, past experience shows that the special line of credit is doomed to be a damp squib. In 2008, following the global financial crisis, the Central bank opened a special 14-day repo window of ₹20,000 crore to enable banks to raise money and lend to the funds, but had received only four bids for ₹3,500 crore. Banks do not evince interest in a RBI credit line that they cannot utilise through on-lending. Failure to on-lend attracts heavy penalty.

SEBI regulations allow mutual funds schemes to borrow up to 20 per cent of their assets to meet liquidity needs for redemption/dividend payout, but there is a definite reluctance on their part to borrow for the fear of the resultant interest payments diluting the NAV, in addition to the reluctance of banks to assist, except by way of outright purchase of debt instruments held by mutual fund schemes at a huge discount.

So, the stalemate is likely to continue, thus indicating that the RBI helpline that will have no takers. The amount could have been better utilised by helping the MSME sector further.

The bane of mutual fund investors is the open-ended scheme which leaves those staying holding the can after those sensing trouble have quietly and wisely exited with just small bruises, if at all. Indeed, redemption pressure is unique to open-ended schemes. In close-ended schemes, there is no question of redemption pressure, simply because there is no redemption possible. Unit-holders are left to fend for themselves in the rough and tumble of the bourses.

Second, the deadly concoction of mis-selling by fund houses, compounded by the enormous credulousness of investors who believe high-risk bonds are the same as fixed deposits, must somehow be halted by SEBI. Low-rated companies sell their bonds through reputed fund houses, which acquiesce in the quest for AUM. While the managers of such fund houses earn hefty bonuses, gullible investors are left holding the can.

The writer is a Chennai-based chartered accountant

Published on April 28, 2020
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