SEBI's new debt investment rules to make mutual funds safer
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SEBI's new debt investment rules to make mutual funds safer

Debt funds do become safer as there is lower concentration risk with issuer level cap in place. Also, the closed ended funds not being able to invest in perpetual bonds is a step in the right direction

  • March 11, 2021  
  • |  
  • UPDATED   22:43 IST
SEBI's new debt investment rules to make mutual funds safer

Securities and Exchange Board of India (SEBI) has capped mutual funds' investment in certain debt instruments with special features like non-convertible debentures which can be converted into equity upon trigger of a gloomy event. According to SEBI's circular issued on Wednesday, a mutual fund house shall not invest more than 10 per cent in such instruments issued by a single issuer. This comes as investors suffered losses last year due to mutual funds' investment in riskier bonds.

"Additional Tier 1 bonds and Tier 2 bonds issued under Basel III framework are some instruments which may have special features as referred. Further, presently there are no specified investment limits for these instruments with special features and these instruments may be riskier than other debt instruments," says SEBI's circular.

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These debt instruments are riskier than other debt instruments as they absorb losses before equity in case of an event that calls for loss absorption.

According to SEBI's new norms, a debt mutual fund scheme can invest at most 10 per cent of its net assets in such debt by all issuers and at most five per cent of net assets under management in such debt sold by a single issuer.

Mutual fund managers see it is a step in the right direction.

"Overall it's a right step to eliminate inconsistencies around investment and valuation of bonds with special features," says Alok Singh, CIO, BOI AXA Mutual Fund.

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SEBI further stated that the maturity of the perpetual bonds shall be treated as 100 years from the date of issuance. Perpetual bonds are quasi debt instruments without any fixed maturity. The risk lies in the event if the issuer sinks. Like in case of YES Bank, it becomes nearly impossible to find buyers for such bonds. Redemption becomes unlikely.

SEBI's new rules will make debt mutual funds more transparent and safer, say debt fund managers.

"Debt funds do become safer as there is lower concentration risk with issuer level cap in place. Also, the closed ended funds not being able to invest in perpetual bonds is a step in the right direction," says Raj Mehta, fund manager, PPFAS Mutual Fund. "The maturity of the bonds has to match the maturity of the fund," he adds.

SEBI's new regulations will come into effect from April 1, 2021.

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