Fund houses reduce cash holding in short-term funds

RBI slashes Marginal Standing Facility rate further by 25 basis points to 8.75% making borrowing under MSF cheaper

Mutual fund houses have reduced their cash holdings in short-term funds as the liquidity in the system has become comfortable.

The average cash holding position in short-term funds were about 20% after the Reserve Bank of India (RBI) had tightened liquidity in mid-July in a bid to arrest volatility in the rupee. The cash holding position has now been reduced to 5-10% and in some cases even below 5%.

In the second quarter monetary policy review of RBI held on Tuesday the Marginal Standing Facility (MSF) rate was reduced further by 25 basis points to 8.75% which makes borrowing under MSF cheaper. Besides that RBI also increased the liquidity provided through term repos of 7-days and 14-days tenure to 0.50% of banks Net Demand and Time Liabilities (NDTL) from 0.25% earlier.

“Due to lowering of MSF rate the liquidity was back into the system. Now we are buying the short-term papers in the tenure of 1-2 months and locking it. In short-term funds the cash holding was about 15-20% three months back and now it is at about 5-10%,” said Dwijendra Srivastava, head of fixed income, Sundaram Mutual Fund.

In fact short-term borrowing by corporates through Commercial Papers (CPs) picked up due to comfortable liquidity in the system as investors like fund houses are now willing to deploy funds.

“Ahead of monetary policy there is a tendency to hold back cash and wait for the outcome. Once the outcome is favourable, then the deployment of that money starts. In our fund houses we are already invested. Our cash holding level will be below 5% in short-term funds,” said Lakshmi Iyer, head (fixed income and product) at Kotak Mahindra Mutual Fund.

In fact even banks may start borrowing more by way of Certificate of Deposits (CDs) to fund their activities in the busy season. This is because the central bank do not encourage much of borrowing from RBI to fund activities. CDs are a preferred instrument of investment for fund houses.

But according to Arvind Chari, head fixed income and alternatives, Quantum Advisors, liquidity may tighten again in the festive season as currency in circulation goes up. Due to which fund managers might resort to increasing cash holdings.

The MSF rate was cut by 25 basis points in May. But in mid-July RBI had raised the MSF rate to 10.25% from 8.25% earlier in a bid to arrest volatility in the rupee against the dollar. In the mid-quarter review of the monetary policy held on September 20 , RBI had cut the rate by 75 basis points and then on October 7 the rate was reduced by 50 basis points to 9%.