RBI’s Liquidity Boost for Mutual Funds

Will This Liquidity Boost Help Franklin Mutual Fund?

Introduction

RBI announced Rs.50,000 Cr Liquidity boost for Mutual Funds after the Franklin Templeton Mutual Fund credit crisis unfolded. If any Mutual Fund House is facing excessive redemptions and do not wish to or can’t sell portfolio securities, then they can approach the bank to avail a loan under SLF-MF.

RBI’s Rs.50,000 Cr Liquidity Boost for Mutual Funds

• On April 23, 2020, Franklin Templeton Mutual Fund closed 6 debt funds of credit risk strategy due to high redemption pressures and an unprecedented liquidity crisis in the bond market.
• Heightened volatility in capital markets in reaction to COVID-19 has imposed liquidity strains on mutual funds (MFs). The liquidity crisis has intensified in the wake of redemption pressures related to closure of some debt MFs and potential contagious effects therefrom.
• However, this liquidity stress is confined to the high-risk debt mutual funds segment at this stage and the overall mutual fund industry remains liquid.
• So, RBI has stated that it remains vigilant and will take whatever steps are necessary to :
  • Mitigate the economic impact of COVID-19
  • Preserve financial stability

RBI Announces Rs.50,000 Crore Special Liquidity Facility for Mutual Funds (SLF-MF) – Key Details

• With a view to easing liquidity pressures on Mutual Funds, RBI decided to open a special liquidity facility for mutual funds of Rs.50, 000 Crore.
• Under the special liquidity facility for mutual funds (SLF-MF) :
  1. RBI shall conduct repo operations of 90 days tenor at the fixed repo rate.
  2. Also, RBI will provide funds to banks at lower rates and banks can avail funds for exclusively meeting the liquidity requirements of mutual funds.
• SLF-MF is on-tap and open-ended, and banks can submit their bids to avail funding on any day from Monday to Friday (excluding holidays).
• The scheme is available from April 27, 2020 till May 11, 2020 or up to utilization of the allocated amount, whichever is earlier.
• The Reserve Bank will review the timeline and amount, depending upon market conditions.
• Funds availed under the SLF-MF shall be used by banks exclusively for meeting the liquidity requirements of MFs by :
  1. Extending loans
  2. Undertaking outright purchase of and/or repos against the collateral of investment grade corporate bonds, commercial papers (CPs), debentures and certificates of Deposit (CDs) held by mutual funds.

Special Liquidity Facility for Mutual Funds (SLF-MF) – Eligible to include in HTM portfolio

• This Liquidity support availed under the SLF-MF measure would be eligible to be classified as held to maturity (HTM) even in excess of 25% of total investment permitted to be included in the HTM portfolio.
• Exposures under this facility will not be calculated under the Large Exposure Framework (LEF).
• The face value of securities acquired under the SLF-MF and kept in the HTM category will not be reckoned for computation of adjusted non-food bank credit (ANBC) for the purpose of determining priority sector targets/sub-targets.

• This liquidity support extended to mutual funds under the Special Liquidity Facility for Mutual Funds shall be exempted from banks’ capital market exposure limits.
• This special repo window will be available to all LAF eligible banks against eligible collateral and can be availed only for on-lending to Mutual funds.
  • The banks will decide the tenor of lending to /repo with mutual funds, the minimum tenor of repo with RBI will be for a period of three months.

Will This Special Liquidity Facility Help Franklin Mutual Fund?

• Franklin Templeton Mutual Fund has already closed six debt mutual funds. So they do not need this loan facility for those schemes.
• Since Franklin Fund House has partially written down fund of funds investing in the closed schemes, they may utilize it for redemptions from those or other open schemes.
• Even if they use this SLF-MF for the payout from the closed-schemes, the banks :
  • May either not accept the low-rated bonds as collateral or
  • Charge a higher rate
• It would be best if investors affected by the scheme closure not assume that SLF-MF would help them unless there is a specific circular from Franklin Fund House.

Conclusion

• RBI’s liquidity boost will ease pressure and support mutual funds to finance the redemption using this facility rather than selling existing papers at a discount and eroding its Net Asset Value.
• This measure – Special Liquidity Facility for Mutual Funds, will stabilize the performance of short-term debt funds and improve investor sentiment about the debt market.