Side-pocketing allows mutual funds to segregate the portfolio
into two, separating the bad assets (illiquid assets) from the good ones
(liquid assets). Advantage of investors as it
prevents panic redemption and ring-fences liquid assets. Advantage MFs because it prevents the fund house from selling liquid papers to meet redemption requests.
Also, investors who take the hit in side-pocketing get the full upside of
future recovery when the credit event happens.
Side pocketing is a technique to
safeguard investors in instruments that have exposure to risky assets.
It is basically an accounting method
that is used to separate illiquid investments from liquid and quality
investment, in a debt portfolio.
Back in 2016, post the JP Morgan
Asset Management (India)’s investments in Amtek Auto defaulted and the fund
house resorted to the side pocket, the Association of Mutual Funds of India
(AMFI) approached SEBI for the creation of rules surrounding side-pockets when
the market faces a credit event.
However, SEBI did not accept the
recommendation then.
In 2018, many debt schemes saw a
sharp fall in the NAV. After these schemes, investments in Infrastructure
Leasing & Financial Services Ltd (IL&FS) and some of its subsidiaries
saw credit rating downgrades.
This crisis resulted in the changeof regulation in debt funds.
Prolonged problems in financial
world need financial innovations before they turn into a systemic risk or a
market level contagion. This might have been the thought process in the
policy-making process of Securities and Exchange Board of India (SEBI) when it
brought out the side-pocketing option in December 2018 in mutual funds for
distressed assets.
UTI Mutual Fund has made enabling
provision for side pocketing in three of its schemes – Arbitrage Fund, Multi
Asset Fund and Equity Savings Fund – by filing additional scheme information
document with SEBI.
The provision will come into force
from September 25 , 2020 and investors who do not agree with the provisions
have the option to exit the schemes without incurring any exit load till then.
Is there a base for such side pocketing?
In February 2003,
following the repeal of the Unit Trust of India Act 1963, UTI was bifurcated
into two separate entities. One is the Specified Undertaking of the Unit Trustof India with assets under management of Rs 29,835 crore as at the end ofJanuary 2003, representing broadly, the assets of US-64 scheme, assured return
and certain other schemes.
The second is the UTI Mutual Fund Ltd, sponsored by SBI, PNB, BoB and LIC. It is registered with Sebi and functions under the Mutual Fund Regulations.
SUUTI, which if sold at 26 July
2016 prices can be expected to fetch aminimum of ₹61,000 crore, far more than the whole year’s disinvestment target
of 2015-16 amounting to ₹56,500 crore! It has now invited India’s leading
merchant bankers to make a pitch for aiding it in the process of liquidating
SUUTI and raising cash from it.
The lesson learned is that one has
to have faith in the strength of the economy to bounce back
Happy Investing
