HDFC Credit Risk Fund, the biggest credit risk mutual fund in India with an AUM of Rs 14,625 crore, has reduced the market value of its debt exposure to Simplex Infrastructures by over 14% from roughly Rs 124 crore to Rs 106 crore. This was done after Care Ratings downgraded the ratings to BB plus from BBB of the leading construction company belonging to the Mundhra family of Kolkata. Interestingly, HDFC Credit Risk Fund, managed by HDFC Mutual Fund, was the only fund in the entire industry that had exposure to Simplex Infrastructures. Internationally, BB rating is sometimes considered below investment-grade and thought to be in high-yield/junk territory.
As per Care Ratings, BBB rated instruments are considered to have a moderate degree of safety regarding timely servicing of financial obligations. BB rated instruments are considered to have a moderate risk of default regarding timely servicing of financial obligations. Modifiers plus or minus used with the rating symbols merely reflect the comparative standing of the security within the category.
“HDFC Credit Risk Fund has debt exposure of Rs 124.11 crore to secured non-convertible debentures (NCDs) issued by Simplex Infrastructures as on November 25, 2019. Care Ratings has downgraded the rating of the NCDs issued by Simplex Infrastructures on November 25, 2019, from BBB to BB+. The ratings continue to be on negative outlook. Consequent to this downgrade, HDFC Credit Risk Fund has valued the exposure to the company in accordance with applicable SEBI Regulations and Circulars on the valuation of such securities,” the fund house said in a communique.
The Simplex securities held by HDFC Credit Risk Fund mature between January and June 2020. The market value of HDFC Credit Risk Fund’s exposure to Simplex Infrastructures was Rs 124.11 crore as of November 25, 2019. The market value of the exposure now stands at Rs 106.25 crore as of November 26, 2019. This marks a 14.3% reduction in market value.
Justifying its downgrade of Simplex Infrastructures securities, Care Ratings said that the revision takes into account non-infusion of equity of Rs 125 crore by promoters within the timelines as expected. The delay could be due to lapse of timelines for the conversion of share warrants, moderation in profitability in Q2FY20 (refers to the period July 1 to September 30), continued elongation in already high collection period in Q2FY20 with an increase in unbilled revenue leading to a deterioration of working capital cycle further, etc. Care Ratings said it had envisaged a significant reduction in receivables which couldn’t materialize, resulting in higher than expected debt levels. Further, the rating considers slow movement in execution of large orders due to delay in getting designs approved, handover of sites by clients, delay in receipt of payments, etc. as well as audit observations/qualifications.
Thankfully, HDFC Credit Risk Fund investors will barely feel a pinch as the fund now has 0.73% of its money in Simplex (compared to 0.85% earlier). This is a major advantage of having a portfolio that is diversified. The fund has about 60 securities in its portfolio, with individual security weight not exceeding 4.77%. Its top portfolio holdings include Tata International bonds, Sikka Ports and Terminals debentures, Muthoot Finance bonds/NCDs, Tata Steel debentures, Tata Sky zero-coupon bonds, HDFC Bank bonds, Punjab National Bank zero-coupon bonds, etc.
Notwithstanding the current Simplex hit, HDFC Credit Risk Fund remains among the top performers in its category. The fund, launched in March 2014, is among the top 3/4 schemes in credit risk category in the 1 year, 3 year and 5 year time periods.
HDFC Credit Risk Fund is by far the biggest credit risk fund in its category. It is followed by ICICI Prudential Credit Risk Fund, Franklin India Credit Risk Fund, Nippon India Credit Risk Fund, Aditya Birla Sun Life Credit Risk Fund, SBI Credit Risk Fund, Kotak Credit Risk Fund, UTI Credit Risk Fund, and L&T Credit Risk Fund, among others.
Investors in credit risk funds should not be perplexed if their fund is hit when a debt security is downgraded. Please remember that credit risk funds aim to generate higher returns by taking higher credit or by investing in lower-rated papers. A downgrade is an occupational hazard for credit risk funds. The lower-rated papers typically have the potential to offer higher returns compared to risk-free papers, but when a downgrade happens, there is a likelihood of getting hit.
While credit risk funds predominantly invest in AA and below rated corporate bonds, interest rates on AA and below rated securities are higher when compared to sovereign/AAA equivalents. What gives the edge to a credit risk fund is its disciplined strategy for credit research. If the fund endeavours to maintain a well-diversified portfolio across individual credit issuers and business groups, it will manage to do well.
Disclaimer: Views expressed here in this article are for general information and reading purposes only. They do not constitute any guidelines or recommendations on any course of action to be followed by the reader. The views are not meant to serve as a professional guide/investment advice / intended to be an offer or solicitation for the purchase or sale of any credit risk fund or any other mutual fund.