Sebi intervention needed after markets stabilise: UTI MF's Amandeep Chopra

Debt market investing has not been a pleasant experience for mutual funds (MFs) of late. Besides loan-against-share (LAS) structures seeing a strain, non-banking financial companies (NBFCs) exposed to developer funding pose contagion risks to the markets. Amandeep Chopra, group president and head-fixed income, UTI MF, shares his views with Jash Kriplani on recent events in the markets. Edited excerpts:

How LAS and developer funding will be impacted as NBFCs face funding crunch?
 

A lot of NBFCs will be deleveraging their books. They will have no choice, but to stop refinancing some of these structures. LAS, direct exposure to real-estate, developer funding, and funding for land acquisition are riskier asset classes. These are not easily liquidated. Real-estate businesses have long gestation periods. Buying land, getting approvals and construction work take five-six years before cash-flows come in. Promoter-funding structures such as LAS have no real cash flows. A typical promoter company only gets dividend income. These structures are largely built around refinance. With NBFCs becoming wary of doing roll-overs for such structures, these could see a continued build-up of stress. To mitigate these risks, promoters can give other forms of collateral and release equity. The other option is to sell non-core assets or the underlying shares to pay off these loans. This is what some of the highly-leveraged business groups are doing.

Why have MFs lent to such structures despite the risks?
 

The initial investment was done assuming relative safety of the structure, along with a good yield. The LAS-type structures get funded as the collateral is believed to be sufficient to take care of any eventuality in case of stress or lack of liquidity. It is seen as an asset-backed model, and not a cash-flow backed one. However, in a crisis-like situation, these assumptions get tested, as we are seeing right now. If the value of the collateral falls much sharper, the lender stands exposed. In some of the recent cases, lenders didn’t even have two-times cover. Wherever the cover is 1.2 times to 1.5 times, there is a risk.  

How do you see the debt market returning to a stable environment?
 

If there are no more negative news flow, we could see the markets stabilise gradually. The balance-sheet correction in NBFCs needs to play out. After that, the market regulator (the Securities and Exchange Board of India or Sebi) would need to put in place certain guidelines so that there is no recurrence of such episodes.

Are yields likely to stay elevated for issuers?
 

Some issuers will continue to see higher yields until they demonstrate that they have unwound leverage and settled their balance-sheet issues. These are the issuers which were recently downgraded or given a negative outlook. These are NBFC conglomerates that have grown their loan book at a rapid pace in the past and could see asset quality concerns or have weak corporate governance. The cost of funding will remain elevated for such names.

How could MFs view the SPV-funding market after IL&FS SPVs have held back repayments?
 

Investments in SPVs have now become a legal issue for the industry. All along, such SPV structures were believed to be ring-fenced from the sponsor debt issues, which gave such structures higher credit ratings. However, suddenly you are saying that because promoter has a problem, he can dip into this cash flow. If that is the new interpretation, then lending to such structures doesn't make sense. We see serious implications for infrastructure funding, securitisation and even for real-estate funding. Other sectors also have such structures where lenders have exclusive rights on project cash flows. Already, close to Rs 2.5 trillion-Rs 3 trillion of SPV structures exist across asset classes.

When it comes to assessing risks, where does the buck stops between rating agencies and MFs?
 

A fund house has to look at its own internal assessment and own credit research processes without over-relying on rating agencies. But for the public at large, it is still the rating which matters. You can’t discount the fact that rating agencies have better access to company financials than a fund house. Rating agencies have access to granular data, a lot of which is confidential. They are clearly in a better position to judge than the public at large. However, the last 12-months indicate that some of them are not doing a good job and need to relook at their processes. Informed and mature market participants (funds, insurance, banks, etc.) also can't outsource their decision-making. They need to take a second opinion. They have to do certain due diligence, take a view and accordingly price the asset.

Do you see more risks to the economy from the tighter liquidity post-IL&FS crisis?
 

NBFCs filled the funding gap for different segments of the economy. As NBFCs are not getting refinanced themselves, they would have no choice, but to withdraw some of their loans. These could be home loans, auto loans and business loans. The demand for housing and automobiles could slow down due to limited funding. A lot of business loans taken by distributors or small enterprises were loans against property. Now, these segments will have limited access to funds. So, we are witnessing challenges for the real economy as the contagion risks posed by IL&FS start to deepen.

What are some of the lessons from recent events?
 

We will definitely see a change in behaviour from institutional investors, rating agencies and from regulators. Investors will act with caution when looking at companies that leverage aggressively to show earnings growth to appease the equity market. Promoters leveraging themselves excessively to diversify or grow other businesses without strong models would be a red flag. Investors, who have relied solely on ratings, would learn that these are not sacrosanct.