Debt Funds are in a mess. After the IL&FS Fiasco it’s the time for the Zee horror show. Many investors stashed their savings in liquid funds. Liquid funds invest in debt funds of short maturity which offer high liquidity and safety. Now these investors feel betrayed.
Investors got a shock on September 10th 2018 when NAVs (Net Asset Values) of some liquid funds and ultra short-term funds (These have maturity 3-6 months) fell more than 1%. But, the nightmare did not stop here. NAVs fell by a further 5% in a day. Why did this happen?
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ICRA and some reputed credit rating agencies downgraded the debt papers of IL&FS Ltd. IL&FS Ltd is an Infrastructure Leasing & Finance Services Firm which serves as the holding Company of the IL&FS Group. It has expertise in infrastructure, finance, social and environmental services.
ICRA a credit rating agency downgraded commercial papers of IL&FS Ltd from A4 to D. Many debt funds had high exposure to IL&FS Ltd. About 18 debt funds had exposure of Rs 2,500 Crores to IL&FS as of August 31st 2018. The NAV of these debt funds was severely impacted. These are some of the funds which were impacted. DSP Bond Fund, DSP Ultra Short Fund, HSBC Cash Fund, Principal Low Duration Fund, Union Liquid Fund, Tata Money Market Funds, LIC MF Liquid, Principal Cash Management Fund among others.
In January 2019 when the mutual fund industry was recovering from the IL&FS fiasco, it was hit by another storm. Shares of the Zee group crashed in a single day (January 25th 2019) wiping out nearly Rs 13,000 Crores in market capitalization. Why did this happen?
The listed Companies of the Essel Group fell after a report by the SFIO (Serious Fraud Investigation Office), which stated it was investigating Nityank Infrapower for deposits of over Rs 3,000 Crores just after demonetization. Nityank Infrapower and a group of alleged shell Companies had carried out financial transactions which involved some Companies associated with the Essel Group. Many lenders have given money to Subhash Chandra (Chairman of Essel Group) against shares pledged by the promoters. These lenders sold the shares leading to the crash.
The lenders like banks, mutual funds, NBFCs came to an agreement with the Subhash Chandra-led Essel Group. The Essel Group stated it had an overall debt of Rs 20,000 Crores. The Essel Group said it was into deals to sell projects worth that amount. The lenders agreed not to invoke the pledge on promoter shares of Zee, Dish TV and other listed groups which the promoters had taken for their privately owned infrastructure firms. This would give the Company time to raise money through a stake sale.
Let’s say Companies require money for the growth and expansion of the business. The promoter pledges the shares and raises funds. Now, if the promoter pledges a lot of shares (high pledging) it’s a bad sign. If the market tanks the lenders invoke the pledge (sells the share) which could lead to a change in management.
Many promoters of listed Companies have pledged their shares to banks (Shares are the collateral). These banks sell the pledged shares if the borrower defaults or if the shares crash in the stock market.
SEE ALSO: Types Of Debt Instruments
The Subhash Chandra promoted Zee Group crisis is hurting debt investors across India. Kotak Mutual Fund has delayed full redemption in 6 fixed maturity plans or FMPs. HDFC Mutual Fund plans to roll over one of the fixed maturity plans which is coming up for redemption on April 15th.
If you are an investor in Kotak Mutual Funds there’s bad news. Investors in 6 Kotak Mutual Funds which are maturing between April 8th and the end of May would not be able to redeem all the units. This is because of the delay in recovering the money lent by schemes to Essel Group Companies Edisons Utility Works Pvt Ltd and Konti Infrapower & Multiventures Pvt Ltd.
Many fund houses holding Zee Group debt would face problems when it comes to redemptions in the next 3 months. For the first time, investors in FMPs are not getting full amount on maturity. This shows the crisis many Companies laden with debt are facing in India and the liquidity pressure in NBFCs.
All investors in the affected Kotak debt schemes would get the maturity amount minus the value of the Essel Group holdings. These investors will get the balance amount when Kotak Fund House recovers the dues from Companies.
This is a way of segregating quality debt from those which have defaulted on principal and interest in the debt portfolio. The fund house segregates the bad bonds into a side pocket. The funds in the side pocket have a different NAV. This NAV is based on estimated and realizable value for investors. When the doubtful asset is sold, unit holders who own the side pockets, get the money. Sadly, HDFC Mutual Fund and Kotak Mutual Fund cannot create side pockets. This is because no fresh money flows into an FMP scheme. So, if you are an FMP investor, you just have to wait till the problem gets resolved.
SEE ALSO: What Are Debt Funds?
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