29 Apr 2020
What really happened to six funds of Franklin Templeton which are closed for redemptions? Why did FT take this call?
Historically, FT’s strategy was to play in the credit risk space. They took a little higher risk in there said six schemes and as such they were generating a little higher returns for the investors. The distributors were well aware of this and everything was going fine until last two years when defaults started happening and Covid-19 aggravated the situation. Liquidity dried up and redemptions increased. To meet redemptions, FT started selling liquid papers and lower maturity papers in the market. They even borrowed funds to meeet the redemption pressure. A point came when FT realized that if they continued to do this, they will be left with only illiquid securities and can’t sell them in the market. Also, investors who stayed in the fund would lose out more than investors who pulled money out. They decided to stop the redemptions and wind up the schemes. While this is unfortunate, in my opinion this was the right call to protect the interest of existing investors.
Is the money gone? Will investors get their money back? How much?
Money is not gone. Investors will start getting their money back once FT start’s selling some of the securities in the market place (if they get right valuations) and as and when papers mature/ interest is received. Investors can lose money under two scenario’s. (1) FT decides to sell the securities at a loss (discount) and (2) if some of the underlying securities defaults going forward. If none of these two events happen, investors are expected to get back their money along with associated interest payments of the securities. I think FT won’t do distress selling in the market now because they are now not forced to sell to meet redemptions. Given the quality of papers held by FT, market players fear that there could be some defaults in future. If this happens, investors might get a lower amount. However, high coupons could help make-up some of these losses.
How long will it take for money to come back?
If FT do not sell securities in the market place, money will come as and when maturities happen. For example, in case of Ultra short term fund, most of the money will come in 2 years whereas, in Short term income fund, it could take 5 years or more. However, I do think, if markets improve and liquidity improves, FT will be able to sell some of the securities in the market place at close to fair value or a little discount to fair value. If that happens, investors can get their money a little faster. Only FT can decide on this.
What should mutual fund distributor’s do now?
If you have exposure to these six schemes, reach out to your investors and update them about the situation. Keep in touch with them regularly. Ofcourse, investors will be furious because now they won’t get back their money when they want it. Do explain that money is not lost. There could be delay. This is also a lesson and distributors should decide going forward how much risk they want to take for their investors. If you don’t have an exposure to these schemes, please do not bad mouth the company, industry and other distributors. Please apply a measured response to your clients. We are all part of the industry and have to face the consequences together.
Should I exit all my Credit risk fund exposure?
No. I don’t think so. Look into the underlying portfolio of each scheme in which you have exposure. Also, look at the portfolio percentage of each client’s exposure to credit risk funds. Take a call based on your total exposure, respective AMCs strength and each client’s individual exposure and comfort. New exposure should be avoided for the time being.
Will the mutual fund industry survive?
While this event is quite unfortunate and we will feel the tremors for quite some time, the industry will definitely survive as well as grow in times to come.