India's MF support plan may struggle to be effective: Fitch Rtgs

Lately, regulators globally have implemented support facilities providing liquidity to the financial markets during the coronavirus pandemic.

On Monday, the Reserve Bank of India announced a Rs 50,000 crore 'Special Liquidity Facility for Mutual Funds'. This will provide 90-day repo funding to banks, to extend liquidity to - or purchase commercial paper and debt securities from - local mutual funds.

The move had come after the suspension of redemptions in six Franklin Templeton bond funds, with combined assets under management (AUM) of approximately $4.1 billion equivalent, on April 23, 2020, and outflows from other funds in March 2020.

"The success of the SLF-MF will hang on the banks' appetite to take up the risks involved, against the system-wide backdrop of low capital headroom and a likely increase in fresh non-performing loans," Fitch Ratings said in a note.

"The facility's structure places the onus on the banks to absorb the associated credit and capital risk, which may hinder their willingness to participate ."

As per the commentary, if the SLF-MF does not achieve its aims of supporting liquidity or restoring market confidence, Fitch believes more fund gatings could occur.

"Indian open-end mutual funds saw aggregate outflows of almost 20 per cent in March. Within this, overnight funds, the most conservative variant in India, saw assets jump by almost 50 per cent, whereas most other fund types saw outflows," the note said.

Furthermore, Fitch said that it believes funds classified as "Credit Risk Funds" are most at risk if redemptions continue, particularly where funds have exposure to less liquid securities, such as unlisted securities, and have demonstrably higher risk appetite through exposure to defaulted entities such as IL&FS, Religare Finvest, or Dewan Housing.

"The size of the SLF-MF appears broadly commensurate with the scale of the funds most at risk," the note said.

"Funding conditions for Indian non-bank financial institutions (NBFIs) remain challenging. If the RBI's support measure fails to restore market confidence, leading to intensified redemption pressures for other funds, this could further narrow funding options for the sector. That said, NBFIs' dependence on mutual fund borrowing has fallen amid the tighter debt market conditions of the past two years."