A Securities and Exchange Board of India (Sebi) circular issued in November 2020 mandating all debt mutual funds to hold 10% of their assets in cash has sown confusion in the mutual fund industry.
The circular was part of a series of measures undertaken by the regulator to improve the regulation of debt funds in the wake of the shock freezing of six debt funds of Franklin Templeton Mutual Fund in April 2020.
The circular went into effect from 1 February 2021.
According to a senior debt fund manager who declined to be named, it is unclear how the 10% is counted for debt funds with specific mandates such as banking and PSU debt funds, credit risk funds and corporate bond funds. For instance, corporate bond funds have to invest at least 80% of their corpus in debt paper marked AA+ and above.
Representations from a large fund house on the matter and from the Association of Mutual Funds in India (Amfi) have not been answered by the regulator.
The 10% norm is meant to be a temporary arrangement until a committee formed by Sebi evolves permanent norms on minimum cash holding in debt funds.
According to the aforesaid fund manager, the issue of debt funds with specific mandates has been referred to the committee in question.
“For example, banking and PSU debt funds have to invest at least 80% of their corpus in paper issued by banks or public sector undertakings. It is not clear if the 80% is to be counted after deducting the 10% cash holding (bringing net exposure to such banking and PSU paper at 72%) or whether it is to be calculated separately (with 80% in banking and PSU debt and another 10% in cash),” said the fund manager.
“Different fund houses are interpreting the rule differently, allowing some to depart more from regulatory mandates than others who are taking a strict interpretation. AMCs (asset management companies) who are taking a wide interpretation of the rules have benefited at the expense of those adopting a strict interpretation,” he added.
A wide interpretation ties up a smaller part of the fund’s assets in the mandated paper (for example, AA+ and above debt for corporate bond funds).
A debt fund manager at a mid-sized mutual fund house concurred. “There is lack of clarity on this issue. To be on the safe side, we are counting the cash requirement separately from the debt mandate. For example, in a corporate bond fund where 80% of assets have to be in paper rated AA+ and above, we are taking 80% in such paper and another 10% in cash,” said the second debt fund manager referred to above.
Cash includes government securities, treasury bills and repos on government securities.
Liquid funds have been required to hold at least 20% of their assets in cash since April 2020.
However, since they do not have other mandates like compulsory holding of PSU bonds, they have not been affected.