Franklin Templeton’s episode on debt funds

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It has been one year and four months after Franklin Templeton announced the closure of six debt funds on April 23, 2020. Not only was the money of investors trapped, but there were also doubts about whether it would ever be returned. While the AMC intended to repay over time, the process was delayed by a number of court cases filed by worried investors or other stakeholders.

When we look back at the events of the episode, we can see that: 

(a) The Supreme Court-mandated SBI Mutual Fund with liquidating the instruments in the six portfolios and repaying investors. 

(b) Though SBI MF was expected to complete it swiftly, no deadline was imposed, which is a plus because it prevented a fire sale or distress sale, which is what FT intended to avoid in the first place. 

(c) 95% of the money has been returned to investors as of April 23, 2020, by using corpus size as the base data point and 

(d) The remaining money in the portfolios is yet to be liquidated.

This 95% figure is the total across the six funds, with individual fund payments ranging from 84% to 108%. This payment was made in six installments in 2021, beginning in February and continuing in April, June, and July, with the most recent installment occurring on August 27, 2021 NAV. Since February 2021, the entire payout has been Rs 23,999 crore, out of a total pay-off of Rs 25,215 crore on April 23, 2020. 

FT made the difficult decision to prevent distress sales at the expense of their reputation, which ultimately saved value for investors as seen by the returns earned by these funds in the post-winding-up period.

What led to this issue?

There were two major issues: a lack of secondary market liquidity and redemption pressure from unitholders. These funds’ portfolios were diverse, with credit ratings ranging from “AAA” to “A.” The market for securities rated below “AAA” is not very liquid, and there was a lot of redemption pressure in March-April 2020. Since the two problems were combined, FT decided to close the funds to avoid distress sales.

One conclusion from the FT event is that a fund can no longer be closed without the approval of its unitholders. According to the Supreme Court, if a mutual fund intends to wound up a scheme, redemptions will be halted because there would otherwise be a rush.

The occurrence has also caused investors to be more discriminating when selecting credit-risk-oriented funds, as liquidity in those papers, which account for around 65 percent of the portfolio and are rated ‘AA’ or below, is not as excellent as ‘AAA.’ Choose portfolios with higher credit quality.

There are just a few credit risk funds that have lasted without a default, while others have had default concerns. Several new policies have been proposed to promote debt fund transparency; however, it remains to be seen how they will assist investors in making informed judgments on the way forward.

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