Sebi may pare exposure of debt MFs to NBFCs, HFCs to limit credit risks

The Securities and Exchange Board of India (Sebi) may cut the overall exposure of debt mutual funds (MFs) to non-banking financial companies (NBFCs) and housing finance companies (HFCs). This will ensure diversification and limit the credit risks taken by the

industry. According to the current norms, debt schemes of MFs have to limit their exposure to any particular sector to 25 per cent of the net asset value (NAV) of the plan.

The 25 per cent limit for the financial services sector is mostly utilised for buying debt papers issued by NBFCs. There is an additional limit of 15 per cent for investment in bonds of HFCs as well, taking the effective limit in the financial services sector to 40 per cent. MFs are the largest investors in commercial paper and pump in over 60 per cent of the CPs issued by NBFCs, estimates suggest.

A cut in the sectoral limit, say industry observers, may compel NBFCs to look for alternate means of financing. Returns of debt schemes could be impacted as debt papers issued by the financial services sector typically fetches a higher yield of 20-30 basis points over papers of similar maturities issued by non-financial companies. The impact could be significant if the overall limit is brought down to 30 per cent from the existing 40 per cent, say experts.

"NBFCs' cost of borrowing will increase and the spread between financial and non-financial papers will reduce. Yields of CPs issued by manufacturing companies, and that of bank certificate of deposits may come under pressure because of the rise in demand for these papers," said a debt fund manager, on condition of anonymity.

According to estimates, the industry's exposure to debt papers issued by NBFCs stood at ~1.5 trillion as of September 2018, almost the same figure as a year ago, data from Value Research shows. For HFCs, the exposure has increased 13 per cent to ~1.86 trillion at the end of the September quarter from ~1.65 trillion a year ago.

"To the extent that the move is seen as reducing sectoral risk and improving diversification, it will be viewed as positive by investors. Returns may come down a little but investors in the money market and liquid schemes usually prioritise safety and liquidity over returns," said R Sivakumar, head - fixed income, Axis MF.

In 2016, Sebi reduced the limit for a debt scheme across a single sector from 30 per cent to 25 per cent of the fund's NAV. The limit for HFCs was reduced to five per cent of the NAV from 10 per cent to restrict credit risks taken by MFs in the housing and realty sector. This limit was subsequently raised to 15 per cent.


According to the Reserve Bank of India's (RBI's) Financial Stability Report released in June, mutual funds were the largest net providers of funds to the financial system. The top three recipients of the funds were scheduled commercial banks (at 44 per cent), followed by NBFCs (26 per cent) and HFCs (19 per cent).

Last month, rating agency Moody's said that a continued liquidity crunch in the markets, following defaults by IL&FS and its group entities, will erode the credit profile of NBFCs. The agency also said the liquidity tightness could lead to higher financing costs, making it difficult for these entities to roll over their liabilities. given they had relied heavily on market borrowings to fund asset growth.

The RBI recently allowed banks to provide partial credit enhancements for NBFC bonds to ease the liquidity situation. Banks' single-party exposure for lending to NBFCs has also been raised to 15 per cent from 10 per cent up to December 2018.


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