The coronavirus pandemic has begun taking its toll on India’s debt markets. In what may be a sign of things to come, Franklin Templeton Mutual Fund has announced the closure of six debt funds, effectively locking up more than Rs 30,800 crore in assets.
The funds that have been closed are Franklin India Low Duration Fund, Franklin India Dynamic Accrual Fund, Franklin India Credit Risk Fund, Franklin India Short Term Income Plan, Franklin India Ultra Short Bond Fund and Franklin India Income Opportunities Fund.
What led to this decision?
What forced Franklin Templeton’s hand was redemption pressure, owing to which the fund house perhaps could not liquidate enough bonds in time to pay investors back. Investors want their money back because they fear that, since the ongoing nationwide lockdown has brought economic activity to a standstill, companies will not be able to meet their debt obligations. So no one wants to buy risky commercial paper that is rated low or is unrated.
Will investors eventually be paid in full?
Not really. Investors will be paid back only proportional to how much money Franklin Templeton is able to recover. And that will take some time.
For now though, their money remains stuck. Investors cannot take their money out of these funds, switch them out to other schemes or even begin to put money into them again. “The decision has been taken in order to protect value for investors via a managed sale of the portfolio,” the fund said in a statement.
Is this the first time investors in Indian debt funds are losing their money?
Not really. India’s debt fund market has been roiled in the last couple of years when two big non-banking finance companies, Infrastructure Leasing & Financial Services Ltd and Dewan Housing Finance Corp, collapsed around September 2018 and June 2019, respectively. Several debt funds that were exposed to these NBFCs had to write their investments off.
Then, in March this year, as many as 34 debt funds saw their net asset values go down as they had exposure to Yes Bank’s debt. Of this, funds managed by Franklin Templeton reportedly lost Rs 590 crore, the second-highest losses booked, after Nippon Mutual Fund’s loss of Rs 2,500 crore.
Has Franklin Templeton faced such a crisis before in India?
Yes, in 2015, Franklin Templeton had exposure to distressed companies like Jindal Steel & Power Ltd. In fact, Franklin Templeton was the biggest holder of JSPL’s bonds, and exited them during February and March 2016. But even back then, the fund house hadn’t taken the extreme step of shutting any of its debt funds down.
Could the Franklin Templeton situation impact other debt funds?
In theory, it should not, but in reality it might. Investors could panic and begin redeeming their investments, putting redemption pressure on other funds, which could then face a similar liquidity crisis.
Meanwhile, the Association of Mutual Funds in India said the MF industry remains robust and that investors shouldn’t “get side-tracked by an isolated event”.
The industry body also said that the debt portfolios of most mutual funds had “superior credit quality”.
“There is no need for (investors) to panic and redeem their investments,” AMFI chairman Nilesh Shah said in a statement.
How badly has the coronavirus crisis impacted the Indian bond market?
While the corporate bond market has been suffering, prompting the Reserve Bank of India to inject more liquidity, India may not be that badly placed either. In fact, on Friday, Bloomberg reported that following the RBI’s moves, India is actually leading returns this month in Asia’s dollar bond market, with the country’s dollar bonds returning as much as 5.2% in April, as compared to the average 1.7% offered by other emerging economies in the region.
In fact, on Monday, in a sign of hope, corporate bonds rallied and their yields plunged after the RBI announced a special open market operation auction as part of which it would buy bonds of longer durations worth Rs 10,000 crore and sell those of shorter durations of the same amount.
What are the Reserve Bank of India and the Securities and Exchange Board of India doing about it?
On its part, the RBI has opened up rupee-dollar swap windows and is also conducting targeted long-term repo operations (TLTRO) in a bid to provide more liquidity to the country’s bond markets. Between March 27 and April 17, the RBI conducted Rs 1 trillion worth of TLTRO. Banks used that money to buy bonds of AAA-rated companies.
Then, the RBI initiated another round of TLTRO of Rs 50,000 crore requiring banks to inject that money into small NBFCs. But for an auction of Rs 25,000 crore, the RBI has received bids for only half the amount, indicating that banks are reluctant to lend to NBFCs.
These moves were on top of the steep repo and then reverse repo rate cuts by the RBI during March and April, which sought to soften the blow of the lockdown that had ground the economy to a standstill.
Meanwhile, SEBI has intervened to ease some concerns by relaxing certain regulatory requirements.
On Thursday, the capital markets regulator asked valuation agencies to avoid assigning a default rating for debt securities held by mutual funds in case they come under pressure from the lockdown or the three-month loan repayment breather in place since March 1.
For debt securities, SEBI has told agencies to accept the more conservative valuation in case they come up with different ratings. The relaxations may offer some relief to mutual funds challenged by volatility in India’s bond markets over the past two months.