SEBI tells Franklin MF to focus on returning money; counters blame on unlisted securities curbs

As things stand today, Franklin MF is the only fund-house in a troubled situation while the rest of the fixed income MFs have not announced any winding up of its debt schemes

Kumar Shankar Roy May 8, 2020

SEBI buildingWith Franklin Resources Inc. top management attributing the Indian regulatory curb on mutual funds’ exposure to unlisted debt as one of the reasons that ultimately led to the decision of winding up of six debt funds, SEBI today countered that narrative, saying more than 12 months were available with the fund house to comply with new investment limits from the date of recommendation of mutual fund advisory committee, but the fund didn’t act on it.

In addition, the fund regulator attempted to remind Franklin Templeton (FT) MF that it had permitted mutual funds to grandfather the existing investments in unlisted debt instruments till maturity of such instruments, so as to not disrupt the market. In the current scenario, Franklin Templeton should focus on returning the money of investors as soon as possible, SEBI advised it in a public statement. However, it did not specify a deadline. An officially announced deadline could have put more pressure on FT.

Blame game

As we have mentioned in our previous post, ever since Franklin Templeton MF announced winding up of its six yield-oriented managed credit funds in India, there has been a concerted effort to put the blame on external factors. Not one word has been spoken about the risk management done by Santosh Kamath, CIO, Franklin Templeton Fixed Income India. As of now, investors in the six affected funds — Franklin India Low Duration Fund, Franklin India Ultra Short Bond Fund, Franklin India Short Term Income Plan, Franklin India Credit Risk Fund, Franklin India Dynamic Accrual Fund and Franklin India Income Opportunities Fund — can neither buy units or sell units. It’s a lockdown for those fund investors! The fund is blaming everyone else except themselves.

Swimming naked

As things stand today, Franklin MF is the only fund-house in a troubled situation while the rest of the fixed income MFs have not announced any winding up of its debt schemes. The soon to be wound up six debt schemes of Franklin Templeton with nearly Rs 26,000 crore have, as on date, returned not a single rupee to investors. Also, the six schemes have borrowed money to meet redemptions, which means any proceeds from fund holdings will first go into repaying debt and only later come to investors.

“SEBI has advised Franklin Templeton mutual fund (FT) to focus on returning money to investors, in the context of their winding up six of their debt schemes,” said an official press release dated May 7.

Jennifer M. Johnson, President and Chief Executive Officer, Franklin Resources Inc. in a recent earnings call told analysts that the SEBI curb on mutual funds’ exposure to unlisted debt, the resultant secondary market freeze, and Supreme Court’s Vodafone verdict led to Franklin debt fund fiasco. Defending the India fund-house’s actions, she insisted that the underlying holdings for the funds has very good credits.

Rap on the knuckle

The SEBI said it had noted that a section of the media has reported quoting Franklin Templeton that tightening of norms for investment in unlisted debt by SEBI was one of the factors that added to pressure on their debt schemes which resulted in winding up of their schemes.

Franklin’s blame game doesn’t appear to have gone down well with the regulator. SEBI said, in light of credit events since September 2018 that led to challenges in the corporate bond market, a need was felt to review the regulatory framework for mutual funds and take necessary steps to safeguard the interest of investors and maintain the orderliness and robustness of their investments.

It was observed by SEBI that unlisted debt securities, particularly bespoke securities in which only a single investor invested, suffered from both forms of opaqueness: opaqueness of structure and true nature of risk on the one hand and lack of ongoing disclosure in respect of financials of the issuer on the other.

In order to address these issues and improve transparency and disclosure of investments in debt securities made by mutual funds with money entrusted to them by investors, SEBI had constituted various working groups. Working groups representing AMCs, industry and academia were set up to review the risk management framework with respect to liquid schemes and to review the existing practices on valuation of money market and debt securities.

Further, an internal working group was constituted to, inter-alia, review prudential norms for mutual funds for investment in various debt and money market instruments. “The analysis along with recommendations of the working groups were placed in a meeting of Mutual Fund Advisory Committee (MFAC) held in June, 2019,” the regulator said.

Interestingly, the MFAC had Sanjay Sapre, President, Franklin Templeton Asset Management (India) Pvt. Ltd as a committee member.

Time wasted, money lost

While Johnson seems to have told analysts that the curbs on unlisted debt came in October 2019, the SEBI said it had provided a timeline to comply with the investment limits for unlisted NCDs as 15% and 10% of the debt portfolio of the scheme as on March 31, 2020 and June 30, 2020 respectively (over a year from the date of recommendations by MFAC).

In addition, the SEBI said it permitted mutual funds to grandfather the existing investments in unlisted debt instruments (as on the date of the circular) till maturity of such instruments, so as to not disrupt the market. These dates were subsequently extended to Sept 30th, 2020 and Dec 31st 2020 respectively in view of Covid-19 related disruptions.

“Despite the regulations being clear, some mutual fund schemes seem to have chosen to have high concentrations of high risk, unlisted, opaque, bespoke, structured debt securities with low credit ratings and seem to have chosen not to rebalance their portfolios even during the almost 12 months available to them so far,” the SEBI observed.

AMFI lauds SEBI

Earlier in the day, mutual fund lobby AMFI lauded measures taken by the SEBI to deepen bond markets over the years have allowed normal functioning of markets and growth of debt MFs.

“Global experience suggests that listing on exchanges create better dissemination of information resulting in finer price discovery and improve liquidity in secondary markets. SEBI in Oct 2019 in consultation with Association of Mutual Funds in India (AMFI) and post deliberation at Mutual Fund Advisory Committee (MFAC) had proposed calibrated reduction in limits for investment in unlisted securities in Mutual Fund Schemes,” AMFI said.

The MFAC consisted of senior financial experts like Arundhati Bhattacharya, Ananth Narayan, Brij Gopal Daga, Deepak Ranjan, Kailash Kulkarni, K. N. Vaidyanathan, Dr. M. S. Kamath, Nilesh Shah, Nilesh Vikamsey, Nitin Vyakaranam, Rajnish Narula, Sandeep Parekh, Saurabh Mukherjea and S V Muralidhar Rao.

Listing guidelines were suitably modified to facilitate listing for instruments like Commercial Paper which hitherto were always unlisted. Issuers were encouraged to seek listing of securities on exchanges for prior issuances.

N S Venkatesh, Chief Executive, AMFI said: ‘’All these steps were taken to ensure that every market participant had access to relevant information which will enable fair price discovery and improve secondary market liquidity.’ Measures taken by SEBI over the years including one in Oct 19 have deepened the debt markets.”

All mutual funds except one has been able to manage day to day redemptions through orderly liquidation of portfolios due to acceptability of underlying securities in secondary market and measures taken by SEBI to deepen debt market, Venkatesh noted.

Update:

Hours after the SEBI’s advisory, Franklin Templeton Asset Management published a notice that sought to explain Franklin Resources Inc. president and CEO Jennifer M Johnson’s earnings call statements in light of the reportage by various media outlets. “In response to a question regarding the winding up of six schemes offered in India, Ms. Johnson provided general background concerning Franklin Templeton’s experience in the Indian market as it existed before COVID-19. The reference to the regulations around unlisted securities was intended to be a part of these background statements to provide context to an audience unfamiliar with Indian markets,” said the notice.

Franklin Templeton reiterated that it would like to highlight that every possible option to avoid this difficult decision was considered, but it was concluded that this was the only viable option to protect value for investors in these funds. “Working closely with the Trustees, the firm is committed to ensuring an orderly and equitable exit for all investors at the earliest possible time,” it said.

An apology was at the bottom. “We deeply regret any unintended slight this may have caused to the esteemed offices of SEBI whom we have always held in the highest regard and unconditionally apologize for the same,” said the notice, signed by Sapre.


Kumar Shankar Roy

Kumar Shankar Roy is contributing editor with RupeeIQ. Kumar is a financial journalist, with a functional experience of 15 years. He tracks mutual funds, insurance, pension, PMS, fixed income/debt and alternative investments markets closely. He has worked for The Times of India, The Hindu Business Line, Deccan Chronicle Group, DNA, and Value Research, among others, across different cities in India. He is deeply interested in marrying data insights with actionable opinion. He can be contacted at kumarsroy@rupeeiq.com.

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