Unitholders of Kotak Mutual Fund’s two fixed maturity plans that came up for redemption earlier this week were in for a shock when the asset manager marked down the net asset value, saying investors may not be able to fully redeem investments.
That stemmed from the scheme’s exposure to debt paper of the debt-laden Essel Group, the promoters of Zee Entertainment Enterprises Ltd., and IL&FS Ltd. entities. After a standstill signed in February, 44 lenders to the Essel Group, including mutual funds like Kotak, agreed to waive collateral top up and extend the repayment to September 2019, effectively restructuring the debt.
Subsequently, Kotak Mutual Fund fully marked down the investments and said that when the money is recovered from Essel Group, the amount would be distributed to unitholders proportionately.
HDFC Mutual Fund, which also has FMP schemes with investments in Essel Group, rolled over the plans for a year but didn’t specifically attribute that to investments in Subhash Chandra’s companies.
Can asset managers do that? What do the regulations say? BloombergQuint explores these and other questions:
The market regulator has allowed side-pocketing of distressed assets in mutual fund schemes. Asset managers may create a segregated portfolio in case of a downgrade below the investment grade or to default.
“Our instrument is rated A (SO) by Brickwork and hence doesn’t warrant creation of segregated portfolio,” said Kotak Mutual Fund in an emailed response to BloombergQuint, and hence doesn’t warrant creation of a segregated portfolio.
HDFC Mutual Fund has yet to respond to BloombergQuint’s query.
Fixed maturity plans are closed-ended schemes, where neither additional purchase of units nor repurchase is possible, unless transacted on a stock exchange or at the time of maturity. The Securities and Exchange Board of India’s regulations mandate a closed-ended scheme like a FMP to be fully redeemed at the end of the maturity.
Kotak Mutual Fund's own scheme information document nowhere mentions any provision to hold back any portion of the investment. It says investors won’t be able to redeem units during the tenor of the plan directly, and redemption will be allowed only on maturity. All proceeds shall be dispatched to unitholders within 10 business days from the date of maturity.
Mutual funds are allowed to invest money raised from investors in securities, money-market instruments, privately placed debentures, securitised debt instruments, gold or gold-related instruments, specified real estate assets or infrastructure debt instruments. Any fluctuation in valuation of investments is reflected in net asset value, and is passed through to the unitholder.
Neither scheme information documents of fund houses nor SEBI’s mutual fund regulations have provisions allowing asset managers to restructure or enter into a restructuring agreement with the issuer of the debt.
SEBI, through a 2008 circular, mandated close-ended debt schemes to invest in securities which mature on or before the date of the maturity of the plan.
But Kotak Mutual Fund, among others, has agreed to extended the maturity of securities till September 2019 even though the scheme matured in April. Essel Group, in its disclosure, had said that asset manager was part of the lenders’ consortium that agreed to debt resolution and a standstill.
The asset management company has yet to respond to BloombergQuint’s query. Nilesh Shah, managing director at Kotak AMC, had earlier said that SEBI “is yet to give a guidance on the issue”.
HDFC Mutual Fund, to avoid holding securities beyond the date of maturity of the scheme, rolled over the plan till April 2020. The regulations allow FMPs to be rolled over, provided requisite filings are made with the regulator and permitted by unitholders in writing. Those who don’t give consent are allowed to redeem holdings in full at net asset value-based price.
While HDFC Mutual Fund is allowing unitholders to opt out, the asset manager has yet to respond to the query if it took approval from investors.
SEBI rules don’t allow partial redemption. In fact, a scheme has to be wound up on maturity date unless it’s rolled over.
SEBI rules also provide for paying 15 percent interest to unitholders for the period delay—in Kotak’s case till September. The fund house, in its conference call, confirmed that SEBI’s provisions specify a 15 percent interest on delayed payment to unitholders.
Resident and foreign investors have to pay short- and long-term tax, whichever is applicable, at the time of redemption. Asset management companies pay dividend distribution tax on the dividend it pays unitholders.
There is no clarity on the recovery amount, or the rate at which it will be taxed. Kotak Mutual Fund didn’t respond to a query on this.
BloombergQuint’s emailed queries to SEBI also didn’t elicit any response.