Department of Financial Services noted that the recent Sebi order can cause volatility in NAVs of debt funds.
In a big development, finance ministry has overridden Sebi’s recent order asking mutual funds to treat AT1 bonds as 100 year instruments from next month. In a memorandum to Sebi, the finance ministry has said that the revised norms will lead to huge mark to market losses to investors. Economic Times.com has seen a copy of the document.
The letter sent by Department of Financial Services noted that the recent Sebi order can cause volatility in NAVs of debt funds. It also said that there might be disruption in the debt markets as mutual funds sell such bonds in anticipation of redemptions. The letter also said that the new rule can affect capital raising by PSU banks forcing them to rely more on the government for capital.
“Panic redemption by mutual funds would impact overall corporate bond market as MFs may resort to selling other bonds to raise liquidity in debt schemes. This could lead to higher borrowing cost for corporates at a time when the economic recovery is still nascent,” the letter noted.
The letter further added that considering the capital needs of banks going forward and the need to source the same from the capital markets, Sebi should consider revising valuation norms to treat all perpetual bonds as 100 year tenor. “The clause on valuation is disruptive in nature. Instructions that reduce concentration risk of such instruments in MW portfolios can be retained as MFs have adequate headroom even within 10% ceiling,” the letter noted.
After Sebi came out with the notice on perpetual bonds on Wednesday, debt mutual funds holding perpetual bonds were staring at losses with the new valuation norm. The new norms were expected to spark a sharp selloff. Experts said redemptions in debt schemes could trigger mutual funds to dump such securities, causing yields to spike.
In response to the circular by Sebi, the mutual fund industry has sent a letter to Sebi asking for new guidelines to be made applicable for new purchases done by MFs (grandfathering).
“To apply a changed set of valuation norms on historical holdings is seen as extremely unfair to retail investors, since they were not aware of this at the time of making investments and will suffer MTM losses purely due to an interim change in valuation norms not linked with any fundamental shift in the creditworthiness of the underlying issuer or instrument or even the market interest rate dynamics. Further, this will lead to severe erosion of investor confidence in the valuation norms and other regulatory norms followed by Mutual Funds which have been otherwise seen as most investor friendly and well regulated,” the industry body said in the letter.