Amid the equity market meltdown, debt fund investors were feeling a bit more secure. However, the biggest shock for them came up when Franklin Templeton India Mutual Fund announced that they have closed six funds effective April 23, 2020. As of now, the investors of these 6 schemes get impacted. However, other debt fund investors are also getting concerned about their investment in debt schemes.

The six funds that have stopped taking fresh money or providing redemption are Franklin India Low Duration Fund, Franklin India Dynamic Accrual Fund, Franklin India Credit Risk Fund, Franklin India Short Term Income Plan, Franklin India Ultra Short Bond Fund and Franklin India Income Opportunities Fund.

The fund house, as of now, has segregated the fund corpus into different portfolios and as and when they realize money from the underlying securities, the investors of these six funds can expect the payment. This is akin to a bank where the government announces stoppage of withdrawal of money by the depositors.

The reason according to the fund house is – “There has been a dramatic and sustained fall in liquidity in certain segments of the corporate bonds market on account of the COVID-19 crisis and the resultant lockdown of the Indian economy which was necessary to address the same. At the same time, mutual funds, especially in the fixed income segment, are facing continuous and heightened redemption.”

“Our understanding is that recent issues like Covid lockdown, illiquid bond markets, SEBI opening the window for AMCs to borrow to meet redemptions etc. led to further problems. Worried investors withdrew money which further made the problem worse. As the portfolio shrinks, the fund is left with a higher and higher proportion of less liquid and probably riskier investments. The mutual fund borrowed money to pay off redemption but appears to have hit the regulatory limit for borrowing,” says Sanjiv Singhal, Founder, Scripbox.

Debt funds have their own share of risks and investors need to make an informed decision while investing. The Credit Risk funds are known to carry higher risk and in the process, the risk in other debt fund categories often gets ignored. Therefore, keeping a close look at the portfolio of any debt fund has become more important now.

Back in 2017, SEBI had re-categorized the mutual fund space into 5 groups – Equity Schemes, Debt Schemes, Hybrid Schemes, Solution Oriented Schemes and Other Schemes. Under the Debt Schemes, there are about 22 categories such as Liquid fund, Ultra short duration fund, Corporate fund, Credit risk fund etc.

The mandate of the Corporate Fund is a minimum investment in corporate bonds of 80 per cent of total assets (only in highest rated instruments) while that of Credit Risk fund is a minimum investment in corporate bonds of 65 per cent of total assets (investment in below highest rated instruments)

In contrast, the Ultra short duration funds have a mandate to invest in Debt and Money Market instruments such that the Macaulay duration of the portfolio is between 3 months – 6 months. Such funds are often used to keep emergency funds along with some portion in a bank savings account. “Ultra short term funds are a good category because of low interest rate risk. But people often ignore the credit risk and liquidity risk. Investors should pick a large (AUM) ultra short term fund with good credit quality. And never forget to monitor your fund for changes in its credit attributes,” says Singhal.

Therefore, its not only the Credit Risk fund that has been impacted but even other debt fund schemes. But, should investors of other debt funds be concerned? “This appears to be a situation unique to these specific debt funds from Franklin Templeton,” informs Singhal.

According to AMFI, the assets under management (AUM) of these six schemes constitute less than 1.4 per cent of the Indian Mutual Fund Industry’s aggregate AUM as on March 31, 2020. The Association of Mutual Funds in India (AMFI), the mutual fund industry body, has also assured investors that a majority of Fixed Income Mutual Funds AUM is invested in superior credit quality securities and schemes have appropriate liquidity to ensure normal operations. AMFI suggests that investors continue to focus on their investment goals, consult their financial advisor and not get side-tracked by an isolated event in a few schemes of one fund company.