DHFL Crisis: Did UTI Mutual Fund act in the interest of investors?

Published: June 29, 2019 at 10:30 am

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The way UTI Mutual fund handled the DHFL crisis leaves a lot to be desired to say the least highlighting the need for tighter rules on what an AMC should do in the case of a bond default.  In early June 2019,  Dewan Housing Finance Corporation Ltd a housing finance company defaulted on almost 1000 Crores of interest payment. If you are affected, you can refer to my earlier article: DHFL Crisis: How to handle your debt mutual funds now?

This criticism of UTI Mutual Fund is the author’s personal opinion and does not in any way imply that the author feels other AMC’s handled the DHFL crisis better! Good or bad is absolute and not a relative measure.

According to livemint, as many as 165 mutual funds (24 AMCs) had exposure to DHFL totalling 5336 crores. If I go by negative monthly returns listed at Value Research as many as 22 funds with a combined AUM of almost 1700 Crores (as on May 31 st 2019) has been affected by DHFL defaults. Fifteen of these funds are FMP/interval funds.

DHFL Crisis: Did UTI Mutual Fund act in the interest of investors?

Among these, UTI Credit Risk Fund has the largest AUM of ~ 4400 Crores. UTI Ultra Short Term Fund (~ 3790 Cr), UTI Treasury Advantage Fund (~ 3000 Crores) and UTI Short Term Income Fund (~ 2700 Cr) are also others affected with significant AUM.

Let us track the AUM of UTI short term income fund along with its DHFL exposure from the fund house factsheets. AUM refers to month closing AUM.

  • Aug 31st 2018, AUM: 9572.7 Crores, DHFL exposure: 4.53%, CARE AAA
  • Nov 30st 2018, AUM:  8590.57Crores, DHFL exposure: 4.49%, CARE AAA
  • Feb 28 2019, AUM: 5545.55 Crores, DHFL exposure: 6.47%,  CARE AA+
  • Mar 31st 2019, AUM: 4366.46 Crores, DHFL exposure: 8.28%, CARE AA-
  • April 30 2019, AUM: 4219.58 Crores, DHFL exposure: 8.39%, CARE A
  • May 31st 2019, AUM: 2784.80 Crores, DHFL exposure: 11.65%, CARE BBB-

Notice that the AUM has been going down progressively. It is this because of institutional investor pull out? Recall DHFL shares dropped 42% on bond default fears in Sep 2018. Is this the reason for the big fall in AUM of the fund from Nov 2018 to Feb 2018?

We are quick to criticize rating agencies but they did progressively degrade the bond (although not fast enough). The fund manager had enough red flags and enough time to sell at least partial holding when the rating was above AA.

The DHFL exposure kept increasing because the fund manager could not sell, but is the situation so bad that AA+, AA- rated bonds cannot be traded!! If you tell me that it is not possible to trade a AA rated bond (in India, in large quantities) then it makes no sense for an investor to buy any kind of debt mutual fund! (gilts have reasonable liquidity, but even gilt funds and money market funds buy corporate bonds and they can get into this kind trouble. You will have dig a bit for relatively safer alternatives such as this: SBI Magnum Constant Maturity Fund: A Debt Fund With Low Credit Risk for long term goals!)

Notice the big fall in AUM from April to May. Again institutional pull out leaving retail investors to face the music of 11% exposure?

It is time SEBI monitored such big drops in AUMs and demanded an explanation from  AMCs. At the very least it will attract some media attention and warn retail investors.

Ideally, such a large fall in AUM with 10%+ exposure due to an inability to sell should trigger scheme closure wrt further purchase, but that is a bit too much to ask. At least UTI mutual fund could have side-pocketed the bad debt to assuage unitholders.

Side-pocketing refers to partitioning the scheme assets into two: The good assets with a good NAV that investors can buy and sell from and bad assets that is locked until it is known one way or another.

They did not modify the scheme wordings to include this provision before the default, but that matters little. If they side-pocketed, neither SEBI nor the unitholders would have complained.

DId UTI has avoided side-pocketing because it is an invitation to exit resulting in significant loss of AUM and profits? Even after the pre-crisis fall, the AUM is still significant (quite likely the highest combined AUM of all AMCs affected).  Others AMCs are also guilty (IMO) of not choosing to side-pocket, but some like BNP Paribas stopped inflows temporarily. Tata MF and DHFL Pramerica have implemented implement side-pocketing.

One could argue that since the DHFL exposure has been marked to zero, side-pocketing does not matter much. I disagree.  Side-pocketing is important as it does not offer an unfair opportunity to new investors to profit if the money is paid back by the borrower.

Suppose I was an investor as on June 2019 and saw the NAV drop by ~ 11% and wondering whether to stay put or not. Then you see the lower NAV as an opportunity to invest and by some stroke of luck DHFL repays its debt, you would get a spectacular return and I would still get a terrible return due to the fact the NAV was down for a few days/weeks/months.

So side-pocketing protects existing unitholders as inflows and outflows can stem only from the good assets in the fund. Even if this is not done, at the very least fresh inflows should have been stopped to prevent the above scenario.

UTI MF neither side-pocketed nor stopped fresh inflows. It imposed a 2-3% exit load for investments made after June 7 and redeemed before 3-6 months. Even after paying the exit load new investor could make significant gains if DHFL pays back.

This possibility, however remote, is not in the interest of existing unitholders.  In my insignificant opinion, UTI MF has handled this DHFL crisis right from its share price crash in a terrible manner. SEBI should have intervened and forced side-pocketing by all AMCs. Let us hope it at least makes it mandatory for future defaults.

Mutual funds are subject to management risks ….. sahi hai

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