Franklin Templeton fund closure: Will RBI step in to save MFs from likely redemption pressure?

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What will be the immediate impact of Franklin Templeton Mutual Fund’s decision to shut six of its open-ended debt funds in the financial system?

To begin with, what Templeton has announced reflects a fund specific-issue and not an industry-wide problem, yet. These were papers suffering from lack of liquidity. But Templeton’s action could impact the trust of investors in other liquid funds even in those ones that are relatively in a better liquidity position, industry observers said.

If the crisis spills over, the lack of trust could result in an exodus of funds to safer assets including bank fixed deposits and gold. “Banks could see a flood of deposits in near term,” said Pratip Chaudhuri, former chairman of State Bank of India.

As investors look for safer assets, bank deposits — despite the lower returns they offer — may see more preference since safety will be sought-after over returns. Some mutual funds will face high redemption pressure in the short-term, experts said.

“The event will shake the trust of the investor and there is redemption likely. This money could go to banks till the time banks there is clarity,” said Siddharth Purohit, analyst at SMC Securities.

Templeton announced closure of six funds — Franklin India Low Duration Fund (FILDF), Franklin India Dynamic Accrual Fund, Franklin India Credit Risk Fund, Franklin India Short Term Income Plan, Franklin India Ultra Short Bond Fund, and Franklin India Income Opportunities Fund (FIIOF) effective April 23. Total assets under management of these funds are estimated around Rs 25,000 crore.

“There is a spill-over effect likely to other funds, equity markets and I won’t be surprised if banks become the last resort for investors,” said Naresh Malhotra, a senior banker.

Will the regulator step in?

In 2008, in the aftermath of the global financial crisis, the RBI had stepped in to save the mutual funds industry. The central bank then opened a special window to provide banks with funds to support mutual funds.

The RBI then cut the amount of funds banks must keep in reserve, releasing more than $12 billion into the banking system,  injected $13 billion via its daily overnight money market operations and introduced a temporary funding window for mutual funds.

This time around, if the crisis spills over to the broader money markets, the RBI could come with a similar window to help banks with liquidity for mutual funds, bankers and analysts said.

In fact, in the recent days, the RBI has been already doing that. Of late, it has actively engaged with markets to ensure liquidity in the market to nullify the impact of COVID-19 crisis. But, this has largely benefited the AAA-rated companies.

The RBI did two rounds of Targeted Long Term Repo Operations (TLTRO). In the first round announced on March 27, the RBI did Rs 1 lakh crore worth of TLTRO. The second round of auctions — TLTRO 2.0 for Rs 50,000 crore was announced on 17 April.

The first auction of TLTRO 2.0 conducted yesterday has however pointed to a muted response. Against the Rs 25,000 crore offered, RBI received bids worth only half of the amount. This pointed towards higher risk aversion in the banking sector to lend to small NBFCs and MFIs despite RBI offering cheaper money at 4.40 percent.

“It is bit premature to say what the impact of this action will be on bond market. This is, till now, a fund specific problem,” said Kumaresh Ramakrishnan, CIO Fixed Income, PGIM India Mutual Fund.

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