RBI makes it easier for banks to invest in debt mutual funds1 min read . Updated: 06 Aug 2020, 02:52 PM IST
- RBI reduces risk capital that banks need to set aside against investment in debt mutual funds and ETFs, a move that may improve liquidity in these funds
In its Statement on Developmental and Regulatory Policies issued on Thursday, the Reserve Bank of India reduced the risk capital that banks need to set aside against investment in debt mutual funds and exchange-traded funds (ETFs), a move that may improve liquidity in these funds.
Currently, banks have to set aside more capital when they invest in debt mutual funds compared to when they buy debt instruments directly. This is because investment in debt mutual funds is treated on par with equity funds when it comes to capital requirements of banks. On the other hand, when banks directly invest in debt papers, capital requirements are generally lower and based on the credit rating and nature of the debt instruments. RBI felt that there was a need to harmonize the two methods of debt investment.
However, noting the risk of sudden redemption in debt funds, the central bank did not go for a complete harmonization. “A general market risk charge of 9% will continue to be applied," said the RBI statement.
What does it mean for debt fund investors?
Experts say it's a positive development from the point of view of debt fund investors. “Banks normally park their surplus liquidity in certain debt fund categories like liquid funds. This move will marginally improve flows in liquid funds and possibly corporate bond funds. It is more of a facilitator than a game-changing reform," said Mahendra Kumar Jajoo, chief investment officer, fixed income, Mirae Asset Mutual Fund.
Some fund managers also suggested that this may cause lower churn of inflows and outflows into debt funds. “Subject to the final guidelines, this move may stop the existing trend you see of a large fall in liquid fund AUM (assets under management) at every quarter-end. Banks invest their surplus cash in liquid funds and other short-duration funds and primarily redeem the funds before the end of the quarter on account of higher capital charge on investing in debt mutual funds. With a similar capital charge, they won’t need to resort to this circus of removing funds at quarter-end and investing back on the first day of the new quarter," said Arvind Chari, head of fixed income and alternatives, Quantum Advisors Pvt. Ltd.