1. What is this special liquidity facility for mutual funds?
The Reserve Bank of India announced today that it will open a Rs 50,000-crs special liquidity facility for mutual funds (SLF-MF) to ease the liquidity pressure on them.
2. Why were mutual funds facing a liquidity crisis?
Mutual funds were facing a lot of redemption requests after Franklin Templeton Mutual Fund suddenly shut six of its debt mutual fund schemes on Friday. They are unable to sell some of their investments in the debt market due to poor liquidity. In other words, there are no buyers for lower rated instruments. If mutual funds have to sell them, they will be forced to sell it at a steeply lower price. It will result in sharp fall in the net asset values or NAVs of schemes.
3. Why are there no takers for lower rated papers?
Covid-19 crisis is fuelling risk aversion in the markets, especially in the debt market. Everybody wants to play it safe. There are only buyers for top-rated papers and government bonds. Nobody wants to buy lower-rated papers for higher yields because they know they won’t be able to sell them if they want to raise money immediately.
4. How will this be solved by RBI SLF-MF?
According to RBI, banks can use funds availed under the SLF-MF exclusively for meeting the liquidity requirements of MFs by(1) extending loans(2) undertaking outright purchase of and/or repos against the collateral of investment grade corporate bonds, commercial papers (CPs), debentures and certificates of Deposit (CDs) held by MFs. This means if mutual funds are unable to sell their bonds in the market, they can use this facility to meet redemption requests from investors.
5. How will it benefit investors?
As said earlier, the special window would ease the pressure on mutual funds to sell their investments at a huge discount to meet redemptions. If they are unable to sell their holdings at a fair price in the market, they can use the special window to meet redemptions.
6. Why are debt fund managers elated?
Debt fund managers believe that the RBI move would soothe the nerves of investors rattled by the Franklin Templeton Mutual Fund episode and stop knee-jerk selling decisions by them. Also, they are taking huge comfort from the RBI commitment. RBI said it is committed to take whatever steps necessary to mitigate the economic impact of Covid-19 and preserve financial stability.
Conclusion : It is more likely than not the investors of Franklin Templeton fund ( six in particular) are likely to receive the money from the fund, however it will not come immediately or at the investors desire. Hence do not expect the money to be received in the next few months as the issue of liquidity will not ease out so easily. The equity schemes of Franklin Templeton are unaffected by this episode. FT is the 9th largest fund in India to manage funds by AUM size. The other mutual fund debt schemes managed by AMC are not any different in terms of having these liquidity issues and hence the above amount is across all AMC who may need a part of the above funds. However do your research well and take a considered decision before choosing the debt funds to keep your capital safe.
(The author Rishabh Adukia is a Chartered Accountant and qualified professional advising on wealth management to individuals, millennial’s, emerging HNIs including others and can be reached on firstname.lastname@example.org )