Franklin Mutual Fund Closed 6 Debt Funds

Franklin Templeton Closed 6 Debt Funds | What Does It Mean for Debt Fund Investors?

Introduction

Franklin Mutual Fund closed 6 Debt Funds of credit risk strategy citing severe redemption pressure and liquidity crisis in the bond markets amid current coronavirus crisis. The winding up of these credit risk debt schemes is effective from April 23, 2020. What does it mean for Debt Fund investors? How big is the impact? All the details are discussed in this article.

Franklin Templeton Mutual Fund Closed 6 Debt Funds

What Happened?

• Franklin Templeton Mutual Fund has voluntarily decided to wind up six of its fixed-income debt schemes effective April 23, 2020.
• The fund house has taken this step as it believes that the market will not return to normalcy soon because of COVID-19 disruption.
• Franklin Templeton winds down 6 Debt schemes, namely :
  1. Franklin India Low Duration Fund
  2. Franklin India Dynamic Accrual Fund
  3. Franklin India Credit Risk Fund
  4. Franklin India Short Term Income Plan
  5. Franklin India Ultra Short Bond Fund
  6. Franklin India Income Opportunities Fund
• All these schemes followed the high-risk, high-return credit risk strategy, with cumulatively manage assets worth Rs.26,000 Crore.
• The fund house will now sell the underlying securities of all these funds over time and pay off their investors in a staggered manner.
• The Asset under Management (AUM) of each scheme as on March 31, 2020 is shown in the table :

What does Wind Down mean?

• Winding down of the schemes is like Lockdown of Investment where :
  • New Investment is not allowed
  • Immediate Redemption is not allowed (Fund house will pay off their investors in a staggered manner)
  • These Debt Schemes will never open again
  • Wind down of a scheme is like whole Fund has become a segregated portfolio. What is Segregated Portfolio?
  • SIPs, STPs & SWPs are stopped

Why Did Franklin Mutual Fund Come to the Debt Schemes Closure Decision?

• The fund house winds down six of its debt schemes in India citing key reasons as follows :
• Severe redemption pressure :
  • Redemption Pressure increased due to COVID-19 pandemic. Mutual funds have been getting a lot of redemption requests.
  • Fund House was already meeting the redemption pressure by taking loan in past few days within regulatory limits.
• Liquidity Crisis in the Bond Market :
  • Due to the ongoing COVID-19 pandemic, the liquidity in the bond market has dried up.
  • The current lockdown on account of the COVID-19 pandemic has led to risk aversion amongst investors and there are no takers for lower-rated and unrated debt securities.
  • Yields of lower-rated debt securities have risen sharply in the market and there is no price discovery. Thus it has materially diminished the abilities of companies to service their debt. 
  • In short, the mark to market losses following a spike in yields and lower trading volumes in the bond markets imparted an unprecedented liquidity challenges to Mutual Funds. % Cash position of these 6 debt funds is shown in below table. Here, negative cash % means the debt fund has borrowed money to meet the redemption pressure.

• Despite RBI’s several measures over liquidity injection into the system, the liquidity in certain segments of the corporate bond markets has fallen-off dramatically and has remained low for an extended period.
• Possibility of Credit Defaults in Future Due to COVID-19 :
  • Franklin usually take more credit risk as compared to other mutual funds in accordance with its high-risk high-return credit risk strategy.
  • There was NO company Default currently. However, the Fund house expects higher credit defaults in future due to nationwide lockdown and standstill economic activities amid COVID-19 outbreak.
• In this scenario, the fund house stated that, This is the best possible way to safeguard the interest of exiting investors. The closure of schemes is the only viable means to secure an orderly realization of portfolio assets.
• Thus, the fund house felt it best under these circumstances to wind up these funds and return the money to investors.

When Will the Investors of These 6 Debt Schemes Get their Money back?

• It will work like a segregated portfolio i.e. the day they get any interest or maturity principal from any of the holdings it will distributed to all.
• Franklin Templeton will not charge any management fees on these funds, however, expenses in the nature of audit fees, custody fees, fund running expenses will continue to be charged.
• Franklin will keep on publishing their daily NAVs.
• Average Maturity of the Funds –

How Big is the Impact?

• The impact of this wind down would be pretty big. More than Rs.30,000 Cr AUM is stuck.
• Franklin has lot of retail investors due to their excellent returns on these schemes in the past.
• In the recent months, all of these funds had written down their respective exposure to troubled bonds of Vodafone Idea Ltd. and a few of these also wrote down their exposures to Yes Bank Ltd.
• These 6 debt funds have a huge exposure of :
  • Non-banking finance companies (NBFCs) : Rs.14,564 Cr
  • Power sector : Rs.5,532 Cr
  • Infrastructure and Realty Sector : Rs.3,480 Cr to a combined 76.41% of the total wealth under freeze.
• The % Exposure to A & Below A rated paper and Last 6-months returns are as follows :

Why No One Told About the Risk Before?

• Well, We Did!
• 200+ top Equity, Debt and Hybrid Funds are reviewed in most transparent manner at MFYandya.
• Stop blindly following Free Mutual Fund Ratings
• Most of the big Fund Rating websites have removed their rating of these funds after the news! Why??
• We haven’t changed the rating on our website. All the ratings below are at least 2-3 months old
• No exposure of these funds in our Model Portfolios
• So, you should hire a Good Financial Advisor, he may charge a bit but will save lot of money for you.

Can This Happen to Other Debt Funds – What Should Investors Do Now?

• Yes, if Credit risk is high it can happen to other debt schemes also. But RBI and SEBI will be more agile now and will take required steps.
• Avoid Credit risk funds currently especially in current uncertainties situation.
• One should avoid any high credit risk fund.
• Always match the average maturity of the fund with your goal.
• Do check Fund profile completely before investing or redeeming
• If you want to take risk, buy Equity. Avoid taking high risk in Debt Funds
• Liquid Fund/Overnight Funds are the safest Debt Funds

Any Impact on Equity Markets?

• There would be no major or direct impact on the Equity market
• Some short-term impact on Asset Management Companies’ stock might be there.
• We think once current COVID-19 situation improves, things should be back on track.