Mutual fund experts said the RBI move on pumping liquidity will boost investor confidence in the sector. (File)

Soothing the frayed nerves of the investor community, the Reserve Bank of India (RBI) Monday announced a special liquidity window of Rs 50,000 crore to bail out mutual funds hit by the turmoil in the debt fund segment, that led to the closure of six credit risk funds by Franklin Templeton Mutual Fund.

Under the special liquidity facility for mutual funds (SLF-MF), the RBI will conduct repo (repurchase agreement) operations of 90 days tenor at the fixed repo rate of 4.40 per cent for banks. Funds availed under the SLF-MF will be used by banks exclusively for meeting the liquidity requirements of MFs.

A repurchase agreement (repo) is a short-term agreement to sell securities to buy them back at a later date. The one selling the repo (banks) is effectively borrowing and the other party (the RBI) is lending.

The RBI’s liquidity offer is expected to bring some degree of comfort in the debt market which has been under huge redemption pressure, especially in the credit risk fund category which has assets of over Rs 55,000 crore. Faced with huge redemptions, Franklin Templeton had closed six credit schemes, effectively locking up Rs 28,000 crore of investors’ money last week,

The whole debt segment had witnessed outflows of Rs 1.94 lakh crore in March.

Mutual fund experts said the RBI move on pumping liquidity will boost investor confidence in the sector. “It’s a good confidence building measure taken by the RBI. to ensure continued confidence of the investors in the MF industry as also normal functioning of the markets. The MF industry continues to be on sound footing both on portfolio quality as also on the liquidity front despite an isolated incident in these challenging times,” said Nilesh Shah, Chairman, Association of Mutual Funds in India (AMFI).

This is the third time the RBI is opening the liquidity window for the financial sector players in the last 15 years. The RBI had opened special liquidity repo window for mutual funds in October 2008 (at the time of the global financial crisis) and again in July 2013, when returns on debt mutual funds dropped sharply after the rupee fell significantly against dollar and mutual funds feared redemption pressure. However, when the IL&FS fiasco hit the financial sector two years ago, the RBI did not approve a Finance Ministry proposal to open up a special liquidity window for NBFCs.

On Monday, the RBI said banks can extend loans to mutual funds and undertake outright purchase of and repos against the collateral of investment grade corporate bonds, commercial papers (CPs), debentures and certificates of Deposit (CDs) held by MFs.

Heightened volatility in capital markets in reaction to COVID-19 has intensified the stress on mutual funds due to the redemption pressures related to the closure of six debt schemes of Franklin Templeton and potential contagious effects. “The stress is, however, confined to the high-risk debt funds segment at this stage while the larger industry remains liquid,” the RBI said.

Nimesh Shah, MD & CEO, ICICI Prudential AMC, said, “The RBI through its announcement of special liquidity facility has aimed to reduce the stress which is being built in the corporate bond segment. Simultaneously, the central bank has maintained that most of the mutual fund industry segments remain liquid. This is a positive move aimed to improve investor sentiment.”

Barring four fund houses which had collectively taken a loan of Rs 4,427.68 crore as on April 23, which is a small percentage of the RBI announcement and also overall MF industry’s assets under management, none of the other 40 fund houses have any borrowings, indicating sound liquidity, Nilesh Shah said.