Following the Franklin Templeton debt funds saga, markets regulator SEBI has reviewed the norms regarding investment in debt instruments with special features. Amongst the changes announced on Wednesday, no mutual fund under all its schemes will own more than 10 per cent of such instruments issued by a single issuer. Also, a mutual fund scheme will not invest more than 10 per cent of its NAV of the debt portfolio of the scheme in such instruments. Such measures comes into effect from April 2021. Here is a quick review.
Mutual funds invest in certain debt instruments with special features such as subordination to equity (absorbs losses before equity capital) and /or convertible to equity upon trigger of a pre-specified event for loss absorption. Additional tier I bonds and tier 2 bonds issued under Basel III framework are some instruments which may have above referred special features.
Tweaks announced
Presently, there are no specified investment limits for these instruments with special features and these instruments may be riskier than other debt instruments. Therefore, the SEBI has decided the following prudential investment limits have been decided for such instruments.
1. No mutual fund under all its schemes will be able to own more than 10 per cent of such instruments issued by a single issuer.
2. A mutual fund scheme will not invest
– more than 10 per cent of its NAV of the debt portfolio of the scheme in such instruments;
– more than 5 per cent of its NAVof the debt portfolio of the scheme in such instruments issued by a single issuer.
The above investment limit for a mutual fund scheme will be within the overall limit for debt instruments issued by a single issuer, as specified at clause 1 of the Seventh Schedule of SEBI (Mutual Fund) Regulations, 1996, and other prudential limits with respect to the debt instruments.
3. The investments of mutual fund schemes in such instruments in excess of the limits specified under paragraph 2 above as on the date of this circular may be grandfathered and such mutual fund schemes will not make any fresh investment in such instruments until the investment comes below the specified limits.
Provisions for segregated portfolio
The SEBI said debt schemes which have investment in such instruments referred at para ‘A’ above or debt schemes that have provision to invest in such instruments will ensure that the Scheme Information Document (SID) of the scheme has provisions for segregated portfolio.
The provision to enable creation of segregated portfolio in the existing schemes will be subject to compliance with regulations.
If the said instrument is to be written off or converted to equity pursuant to any proposal, the date of said proposal may be treated as the trigger date. However, if the said instruments are written off or converted to equity without proposal, the date of write off or conversion of debt instrument to equity may be treated as the trigger date.
On the said trigger date, the SEBI said, AMCs may, at their option, create segregated portfolio in a mutual fund scheme subject to compliance with relevant provisions.
Further, Asset Management Companies/Valuation Agencies will have to ensure that the financial stress of the issuer and the capabilities of issuer to repay the dues/borrowings are reflected in the valuation of the securities from the trigger date onwards.
Valuation of perpetual bonds
As regards the valuation of bonds with call and/or put options, the SEBI clarified that the bonds will be valued in line with the SEBI circular No. MRD/CIR/8/92/2000 dated September18, 2000 irrespective of the nature of issuer.
Further, the maturity of all perpetual bonds will have to be treated as 100 years from the date of issuance of the bond for the purpose of valuation.
The SEBI already permits close ended debt scheme to invest only in such securities which mature on or before the date of the maturity of the scheme. Accordingly, close-ended debt schemes will not invest in perpetual bonds.
