Franklin crisis: Hindsight is 20-20, but key manager could have done better

One industry veteran remembered how an earlier fund that Santosh Kamath managed with another fund house faced a sudden lumpy redemption. The underlying scheme had exposure to an airline, which has since run into financial trouble, but was robust at the time. But a large liquidation could cause problems, it was felt. Kamath managed the transaction without incident, though not without some anxious moments at the fund house. He may have learned from that experience. 

He told Business Standard in an earlier interaction that systems were in place to prevent lumpy investments at Franklin Templeton Asset Management (India) where he is chief investment officer for fixed income. The ideas seem to have been to reduce concentration risk not just in investments, but from investors as well. Nevertheless, Franklin decided to wind down six schemes with assets of over Rs 25,000 crore last Thursday after heavy redemption pressure and drying liquidity.

Troubles with India’s illiquid debt market have plagued Franklin Templeton since inception. An early debt scheme ran into trouble in the 1990s. It then had to take the debt on its own books.

Something similar happened with investments in Jindal Steel and Power a few years ago. The firm’s debt had run into issues and Franklin Templeton bought the paper from the schemes at a discount. Questions were raised about the valuation practices followed at the time as the asset manager made a neat profit while the fund investors had lost.

More recently, it was forced in January to side-pocket investments in telecommunications company Vodafone Idea worth about Rs 2,000 crore. 

A side-pocket involves separating troubled debt into a distinct vehicle. The original investors get their money back if the value is regained. Other fund houses, too, had to face issues. Many exited Franklin’s debt funds since then, but some were caught unprepared.

An old mutual fund hand said he got a call seeking advice from a businessman who had invested some money with Franklin Templeton. The amount (less than Rs 1 crore) is now stuck, even as he faces cash flow issues because of the Covid-19 crisis. “This is a small-time guy... imagine if you are a corporate who’s parked Rs 100 crore, what are you going to do?”

There is a fear that a large number of such investors who are bleeding on multiple fronts may well choose to redeem en masse from other fund houses too. The Association of Mutual Funds in India has tried to put investor worries to rest, with assurances that investors need not panic.

An engineer-turned-management graduate from XLRI-Jamshedpur, Kamath’s journey was perhaps ultimately a victim of his own success, according to Dhirendra Kumar, chief executive officer of fund tracker Value Research.
 

Most of the credit risk money that came in would go to his fund, which made it difficult to manage beyond a point, irrespective of the systems that might be in place to reduce risk.

“The kind of market he was operating in, he became too big,” said Kumar.

A fault could perhaps be found in the investments that the Franklin India Ultra Short Bond Fund made, according to an expert. The scheme should ideally have had more liquid paper, considering it was supposed to be for short-term investments and not really a scheme for risk-taking.

The proportion of AAA-rated paper, debt with the highest degree of safety, was under 1 per cent in all the schemes at the end of March. Some of this could be because of the fund selling it most liquid paper to meet redemptions, according to experts. It was 0.1 per cent of the Ultra Short Bond Fund at the end of March, according to the Value Research data.

The regulator could also have done a better job in setting better guidelines and dealing with rising risks proactively before they came to a head. Many fund managers are struggling with the unexpected issues that a crisis like Covid-19 has unleashed, and Kamath was perhaps just the most exposed because of his style of investing, though there were places he could have acted slightly more cautiously.

But these things are clearer after the event, Kumar said. “Hindsight is 20-20.”