Mr. Avnish Jain
Head – Fixed Income, Canara Robeco MF
Mr. Avnish Jain is the Head of Fixed Income at Canara Robeco Asset Management Company, Robeco’s joint venture in India. Avnish with over 25 years of experience across many segments of the industry is actively involved in managing the fixed income funds which include Canara Robeco Income Fund, Canara Robeco Corporate Bond Fund , Canara Robeco Conservative Hybrid Fund and Canara Robeco Equity Hybrid Fund.
Prior to joining Canara Robeco, Avnish was a Senior Fund Manager with ICICI Prudential AMC.
His stint also includes, Head of Fixed Income with Deutsche Asset Management, Senior Consultant – Professional Services with Misys Software Solutions, Head of Trading with Yes Bank, Senior Trader-Proprietary Trading with ICICI Bank and Senior Analyst with UTI Securities Exchange Ltd.
Avnish Jain has done his B.Tech from IIT Kharagpur and post-graduation from IIM Kolkata.
Q. Over the past year, SEBI has initiated a lot of measures to tighten the norms of debt funds. Can you please explain how investors are better protected now, as compared to say a year back?
Answer: In the last one year, SEBI has undertaken number of measures to tighten debt funds. Some of key measures were (1) Full mark-to-market in Liquid Funds (2) 7 day exit load in liquid funds (3) 20% liquidity requirement in liquid funds i.e. investment in cash, T-Bills or Government securities/ 10% liquidity for all other debt funds (4) Tighter group exposure limits in debt funds as well as tighter prudential norms for investment in structured assets (5) Tighter investment norms in AT-1 bonds (6) Tightening of norms for Inter-scheme transfers (7) Compulsory trading for Bonds and CPs by mutual funds on online exchange platforms (8) Revised Risk-o-meter methodology for debt schemes which will clearly differentiate schemes based on credit risk and liquidity risk. The above changes are likely to help investors in the following manner:
- Changes in liquid fund norms is likely to dissuade daily/short term investors to invest in liquid schemes, which in turn will likely reduce the impact of large inflows/outflows on small investors
- Minimum liquidity criteria will likely give additional protection to debt funds and help in tighter liquidity scenarios or in times when redemptions are higher.
- Tightening of credit norms is likely to reduce credit risk taking by funds, as tighter norms and requirement of additional transparency is likely to dissuade weaker companies from accessing mutual funds for their requirements
- Tighter inter-scheme norms will likely prevent frequent transfers between schemes and reduce surprises for investors
- Trading of Bonds / CPs on online platforms is likely to improve price transparency as well as price discovery
Q. Can you please explain how the new ‘very high’ risk-category will be applicable to debt funds? How will the new risk ratings impact the existing ratings of debt funds?
Answer: The new risk-o-meter rating has been made very detailed. For debt funds it takes into account Risk values from three factors i.e. (1) Credit Risk (2) Duration Risk (3) Liquidity risk. The simple average of the three factors will be the risk value of the fund. However, in case of the average of the three risk factors is lower than the Liquidity risk value, then the liquidity risk value will be considered the risk value of the portfolio.
Duration risk is measured by Macaulay duration and the risk value is between 1 and 6, with 6 being the highest risk i.e. higher duration means higher risk.
For credit risk there are different values prescribed based on credit rating and are between 1 and 12.
For liquidity risk there are different risk values based on credit rating as well structuring of the instruments i.e. whether it is a plain vanilla bond or a complex structure. These values are also between 1 and 14.
The above methodology will likely ensure that credit and liquidity risk is adequately reflected in the overall risk value which will range from 1 to 6. e.g an overall risk-o-meter value of 6 (Very High Risk) for a debt fund will likely indicate very high credit and liquidity risk i.e. more exposure to lower rated issuers as well as structured instruments as well illiquid papers.
The existing ratings of funds are likely to go substantial change reflecting the credit and liquidity risks in respective funds.
Q. What are the primary risks of investing in debt funds? How can investors decide which debt fund to invest in? Any quick pointers?
Answer: There are three primary risks in debt funds:
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- Interest Rate Risk: Risk due to interest rate movement. Yield and prices are inversely related i.e. when yields go down bond prices go up and vice versa. Fund managers try to take advantage of falling interest rate (and try to make capital gains as bond prices will move up when yields fall) in a portfolio by increasing average maturity of the portfolio (for longer duration securities the price rise will much more as compared to short duration bond on similar down movement in yield). Interest rate risk is measured by Modified duration.
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- Credit Risk: Risk due to investing in lower rated papers. Credit risk refers to the ability of an issuer for timely payment of principal and interest. In general, a AAA is the highest rating and D denotes default rating. Credit risk is the most important risk an investor needs to assess as default in any paper in a portfolio can lead to loss of capital for investor leading to lower returns from portfolio.
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- Liquidity risk: This refers to a portfolio’s ability to sell its holdings, with minimum impact cost near fair market value, to meet any redemption requirements. Due to market conditions, liquidity in bond markets may fluctuate widely e.g. when overall systemic liquidity is very high then it is easier to buy/sell bonds but when overall systemic liquidity is tight, buyers may demand higher premium from a seller to buy their holdings leading to high impact cost
Interest rate risk can be generally managed through derivatives like interest rate swaps and futures. Further, funds typically invest in government bonds or highly liquid AAA bonds whilst taking duration risk in funds. This gives fund manager flexibility to actively manage duration through trading in highly liquid papers with minimal impact cost.
With regards to credit risk, while in developed markets credit default swaps (CDS) are extensively used to mitigate this risk, it is not prevalent in India. Hence, in case of downgrade / default on any paper in a portfolio, the investors may have to take a substantial hit on their overall returns. Further the legal process for recovery, in case of default, is lengthy, leading to more uncertainty for investors.
Liquidity risk is also important as in India, as in the secondary markets typically AAA rated papers have the highest trading volume. Lower rated papers (say less than AA rated papers) have very thin or negligible trading activity. This implies that if a portfolio is holding a high proportion of lower rated papers, it may not find ready buyers in a situation of large redemptions by investors and may be forced to sell at steep discounts, impacting investor returns.
Investors should look at all three risks when deciding on debt fund investments. While interest rate risk is easier to manage, high credit and liquidity risk can lead to potential losses for investors.
Q. There appears to be a yield gap between short and long duration papers in the market. If so, what is driving this yield gap? Are fund managers increasing exposure to long-duration papers in their short duration funds to improve performance?
Answer: Currently the yield curve is very steep (i.e. the yield on longer term paper is much higher than short papers). This is due to: (1) RBI rate cuts and excess system liquidity is keeping the short-term rates very low (2) Larger than expected borrowing from the government, due to pandemic related fiscal stimulus, has likely kept the longer bond yields elevated. Further high inflation in last few months have probably deterred investors from taking aggressive positions in long term bonds leading to a steeper yield curve. This situation may persist till government borrowing normalises.
In short term funds, fund managers may take positions in long duration papers to take advantage of favourable interest rate movements i.e. when yields trend lower the fund can benefit through capital gains from long duration positions. However, portfolio restrictions relating to average maturity will likely prevent fund managers to substantially increase exposure to longer term bonds.
Q. What is the investment strategy behind your flagship debt funds in the present markets? What economic outlook is behind this strategy?
Answer: CRAMC debt investment philosophy is focussed on generating returns through active duration management through investment in government paper / high quality bonds and the same continues in current market conditions as well. The current economic outlook continues to remain uncertain in absence of any vaccine and widespread disruption induced by the COVID-19 pandemic. RBI has taken number of steps like rate cuts, bond buybacks and long-term liquidity injections through repo operations at low rates, to reduce the impact of the COVID-19 fallout. We believe that lower rates are likely to persist for longer as globally also the situation remains grim with world economies continue to get impacted by pandemic shutdowns. In many advanced economies rates are either zero or negative. This situation is likely to persist for next few years as economies slowly recover from sharp downturn of 2020.
Q. What would you advise to investors undecided between say bank deposits and debt funds, especially with lower returns expected from debt funds?
Answer: While the current returns of the debt funds are expected to be moderate as compared to past returns, bank deposits rates have also trended lower in absence of very low credit growth and high systemic liquidity. Mutual funds provide investors with high tax efficiency (in case holding period is more than 3 years), daily liquidity as well as transparent portfolio disclosures. Hence debt funds provide investors with a good option to invest over longer-term horizon.
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