You should sell your debt funds
Yes, if you request redemptions quickly. The RBI announced a special kind of funding for banks called SLF-MF (Special Liquidity Facility for Mutual Funds). This facility allows banks to borrow money from the RBI at 4.40% (repo rate) and lend the same money to mutual funds at a higher interest. This must be a secured loan only, meaning mutual funds will have to pledge AA+/AA/A+/A rated corporate bonds and government securities they hold (which are indirectly owned by you). This facility is available for three months only and the most a fund can borrow is 20% of it’s AUM. The fund houses are supposed to use this money in order to manage redemption pressure from investors like you and me.
Can this money be used to fund your redemptions? Yes. And you should redeem capital from your debt funds right now. A financial crisis is resolved only when someone decided to absorb the loss. In this case, it has to be to the investor, the fund house, the bank of the Government. Any credit facility is just delaying the inevitable problem. There are two reasons for this -
(a) SEBI has informed mutual funds that they do not need to mark down the value of the bonds they hold if their credit rating falls because of corona impact. This should never have been done. Rules like this have a little bit of subjectivity and end up overvaluing assets. A company’s bond which was, say, Rs 100, in normal times is now valued at Rs 70 because of lack of business due to corona. Mutual funds are now allowed to value these bonds at Rs 100 itself as if corona never happened and the world around us did not shut down. Sure, Rs 100 is the true price is the fund house manages to sell it at that price in the bond markets but liquidity there has dried up, meaning there aren’t many buyers. And rightly so, who would want to invest in a company’s debt in uncertain times like this.
(b) Mutual funds are allowed to borrow only up to 20% of their AUM from banks to fund redemptions. The first people to request redemptions will benefit from this while those buying right and sitting tight will end up holding an overvalued fund full of bonds that are overvalued and cant be sold. It’s also an educated assumption that Franklin might not borrow to the extent of 20% of it’s AUM because it’ll have to pay interest on the money they borrow.
Below is a chart depicting the percentage of franklin’s funds that are in low-quality bonds.
Strategic Investor |Investing in Early stage Start Ups-Tier-2,3 cities | Chartered Accountant
4 年1) I think holding those debt instruments make sense which have taken minimum borrowing in this time . Only those will be able to repay the amount when the NAV starts going up. 2) Also ,what instruments or papers have they invested in should also be seen .
CIO & Business Head
4 年Risk-Return-Liquidity are the 3 basic legs on which any investment stands. By all means, based on an event/periodically one should re-evaluate the MF schemes one has invested in, and whether it continues to hold up according to one's risk-return-liquidity profile. The statement - "You should sell your debt funds" betrays an utter lack of understanding of the debt market, where it fits in with investor needs, and debt mutual funds. In a way this shows the "green with envy" attitude because equity and commodity intruments (higher risk-return) are 20% or more down. There are more riskier parts of the debt market, so one should evaluate whether it fits in with investor needs and horizon. Throughout this Covid crisis, debt has outperformed (15% or more POSITIVE RETURNS) for duration based funds.
CIO & Business Head
4 年Utter balderdash!
Certified Financial Planner | Chartered Wealth Manager | Chartered Economist
4 年So if Franklin goes down, we should sell all debt funds. Yes Bank went down and hence we should sell all equities, PMC bank went down, hence we should break all FDs. We should not open a Demat account also because Karvy also went down. The worse one, if we are holding cash at home, it can get demonetized. This is a clear case of representative bias where we decide about something by just seeing a sample. Many Debt funds are holding only govt securities or bonds backed by PSU, PSBs. They should not go down in this current market. So, although I like the analysis but heading of the article could have been "You should sell your debt funds with low credit quality".