A rigid regulator, defensive fund managers, and rattled rating agencies are today caught in a web of rule and fear psychosis that is hurting mutual fund investors.
Even after a company with a D or default tag pays interest on its bonds, funds holding the securities are not allowed to mark-up the valuation of the papers. As a result, investors, hit by a huge valuation mark-down following a downgrade, do not see the value of their investments rise.
On Tuesday, the troubled housing finance company DHFL paid Rs 962 crore as interest on some of the debentures it had issued. But, unlike a downgrade (following delay in interest payment that shaved a slice of their investments), Tuesdays interest payment did not improve the fortunes of investors.
Why? According to the rules, which the fund industry had to accept after it was prodded by Sebi, a default would necessitate a 75 per cent mark-down of valuation for secured papers and 100 per cent for unsecured papers. The somewhat blunt rule, say market insiders, owe its origin to one of the fund houses giving some of the large investors an easy exit last year, just before the IL&FS house of cards collapsed.
The question that crops up is: even though DHFL is not out of the woods and may have to struggle to arrange cash after two months, why cant the funds mark-up securities and show a higher net asset value (NAV) after the company serviced interest on the bondsRs
Here comes the rating companies wearing two hats: first, assigning rating of debt instruments — triple-A, or triple B or D, etc; second, estimating valuation of securities based on which funds calculate the respective NAV of schemes which have invested in these securities.
Having been hammered after the IL&FS fiasco, which sparked downgrades by several notches in quick succession, rating companies have turned far more sceptical and are unwilling to upgrade the rating of a bond simply because DHFL has serviced one round of interest payment.
“It is a company under stress. It is constantly under media glare and there are reports of the government issuing look out notices on promoters. Rating companies, whose role has been looked into by SFIO, will think twice before taking DHFL out of the default category”, said a senior industry person.
“And, if the rating is not revised upward, the other segment of the rating industry which deals with valuation will not give those papers a higher valuation… so this could mean a long wait before rating, valuation and thereby the NAV of MFs (holding DHFL papers) go up,” said a fund manager.
Once a security is rated D, agencies wait for three months before evaluating any window for upgrade.
Earlier on June 4, when DHFL did not pay interest on NCDs, fund houses marked down their investments in DHFL by 75 per cent. Subsequently, the net asset values of several debt schemes fell 6 per cent-53 per cent on June 4, reflecting the marked down value of the holdings in DHFL paper. About 22 Read More – Source