Clarifications on bank investments in mutual funds

Definitely positive so far

B Chandgothia
Head-Fixed Income Principal AMC

After keeping markets on the edge for a while, the Reserve Bank of India (RBI) finally came out with clarifications on treatment of mutual fund investments by banks.

The impression created by the first set of guidelines was that the 10 per cent cap would apply to all open-ended mutual fund units since they are technically unlisted (being open-ended, they have daily purchase/sale options but are not listed on stock exchanges).

While banks shunned fresh investments in unlisted securities during this period, there actually were fears of large-scale selling of unlisted investments, including redemptions from mutual funds by them. That sent the market into a bit of a tailspin with players looking to reduce positions fearing the worst.

The clarification by RBI puts things in perspective - it clearly leaves out equity/ hybrid funds from the guidelines while including only pure debt funds.

Even within debt funds, it leaves out funds that have an exposure of 10 per cent or less in unlisted securities.

For debt funds that do have a higher exposure, it has provided banks till December 31, 2004, to rectify deviations from the limit.

Simultaneously, it has allowed banks to invest incrementally in unlisted corporate bonds if they are in the process of getting listed.

The impact of the clarifications has definitely been positive. Volumes have returned to corporate bonds and the spike in yields has been arrested as fears of selloffs have waned.

Banks are relieved that they don't have to make large scale changes to their non-SLR portfolios immediately while mutual funds are relieved that the anticipated pull out of banks from them would not happen now.

Efforts to get unlisted bonds listed too are bearing fruit. While some corporate issuers have already got their unlisted bonds listed, others are very close to doing so.

This would not just create a more transparent corporate bond market; it would also reduce the amount of unlisted bonds held by both banks and mutual funds. Over time, the portfolios of banks and mutual funds would have more listed bonds.

It is quite possible that by the time the new deadline approaches, medium/longer term bond funds will have more than 90 per cent of their assets in listed securities, making them eligible for investment by banks.

Shorter-term funds like liquid funds, though, may not be able to make the distinction given an inherent need on their part to invest substantially in unlisted assets for better liquidity management.

But if RBI does exclude these from the purview of these guidelines, they may still be able to make it! We'll wait and see.

The one area where RBI could have done with a clarification is on the 'rating' of mutual funds. While very few funds are rated, they invest mostly in rated assets.

Would that, therefore, qualify them as 'rated' based on their portfolios (something like a maximum 10 per cent exposure to unrated securities) or would they have to get themselves rated specifically?

A minor clarification would help, but even if it were not to come, most funds would get themselves rated specifically to make the cut. After all, it is all about making available all the right investment choices, especially if the investors happen to be banks with bags full of money!

Short-term mart boosted

A Balasubramaniam

Head Fixed Income
Birla Sun Life AMC The Reserve Bank of India's (RBI) latest guidelines have restricted bank's investments in sub-one-year securities other than money market instruments. This is a good move and will help develop a vibrant short-term debt market. The RBI has given time of almost a year, which is more than what was expected, by the market, for reducing bank's exposure to unlisted bonds. In the same circular, RBI has permitted banks to invest in mutual fund schemes subject to the mutual fund schemes exposure to unlisted bonds is kept at less than 10 per cent of the net asset value of the fund. Such investments by banks are kept outside the 10 per cent limits to invest in unlisted instruments. RBI had also recognised the need of developing the securitised market given the size of the market. To sum up, the recent guidelines provide complete clarity on investments in listed / unlisted bonds, investment in mutual funds schemes, investment in securitised papers and also venture capital investments. I would even say extension of time to comply with new guidelines to December 31, 2004, from March 31, 2004, came as a big positive surprise to the players. Post this announcement; debt market sentiment had improved substantially resulting in contraction bonds spread over government securities. Now that adequate time has been given to market players to adjust their portfolio to comply with news norms, I would assume the coming year would emphasise a lot of importance on the corporate bond market. First and foremost, there has to be a deadline to bring the existing outstanding corporate bonds under one fold. There could be a deadline of say 6 months from today to comply with disclosure norms and other requirements of the Securities and Exchange Board of India and stock exchanges. For this, the bourses should consider waiver of the listing fees at least in the beginning and subsequently charge a low listing fees to encourage corporates to list their bonds. Financial disclosure norms should also be made compulsory as is the case for equity listing with the disclosure on the stock exchange website. The issuer should also put out quarterly financial results in its website. In general, corporate bond issuance is done at a greater speed as against equity placement. At the same time, investors too have to earn on a daily basis on their surpluses or on their investment as the debt markets globally are very dynamic and vibrant. Therefore, the regulator can introduce two sets of requirements one pre-negotiation and the other post-negotiation. Of course, the transaction should get concluded within a set time frame of say one week subject to filing the offer document with Sebi, bourses, rating agencies etc. The move of RBI restricting investments in one-year bonds is welcome; however, it should consider allowing institutional investors to invest in floating rate instruments of any maturity, especially at a time when the interest rates are low and every investor is in need of floating rate instruments in their bouquet of investments.