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Credit Policy: A Blow to Cash Funds

Cash Funds are left in lurch as the new credit policy has pruned down their investment avenues.

Liquidity management could become a tightrope walk for short-term debt funds with the recently announced credit policy drastically cutting their investment avenues. Apart from the gradual withdrawal of cash funds from call money market, several other issues are giving sleepless nights to fund managers.

Of course, topping the list of concerns is the phased exit of mutual funds from the call market in a phased manner. Overnight lending has been the lifeline of cash funds with schemes parking a substantial chunk of their corpus here. While funds have already been shown the door, it has come in the absence of a credible alternative. For instance, repo market is an ideal option, where unlike call, lending is secured since it is backed by government securities. Unfortunately for cash funds, this segment is not active on the Indian bond markets though some fund managers feel that once non-banking entities exit call, options will emerge.

Two, the central bank has done away with the auction of 14-day and 182-day treasury bills. Although cash funds hold only a marginal exposure to T-bills to avoid volatility, the 14-day T-bill would have still given some reprieve to cash funds in the absence of call markets. This is the shortest duration instrument on the sovereign yield curve.

Says Nilesh Shah, CIO, Templeton AMC, "The phased removal from the call money market along with the cancellation of 14 day and 182 day treasury bill auction will create problem for non bank entities to manage liquidity. This removal should be synchronised with the development of deep Repo market, which is not existing today. We are hopeful that the RBI allow the non bank entities to participate in the call money market till the development of the alternate repo market."

Third, the credit policy has allowed banks to lend at sub-PLR rates. Thus, corporates will now directly raise cheaper loans with banks rather than mobilise short-term money through commercial papers and non-convertible debentures, where banks are currently major investors. This will save on company's cost for raising money since CPs and NCDs have to be rated. Banks, with their unutlised funds, are also willing to lend these borrowers that are generally top-rated companies. However, short-term debt papers have been the mainstay for liquid funds. If they go out of favour, it will further shrink the investment menu for this category of funds.

Further, all transactions settled through the Delivery versus Payment (DVP) system of RBI will be on T plus 1 basis. This is bound to impact the collection of proceeds for cash funds, where instant liquidity is the selling mantra. Says a fund manager, "We can trade from t=0 to t=14 days. While bulk of the transaction in the morning are on t= 0 basis, bulk of the transaction in afternoon are on t+1 basis. However, with uniform settlement, now we won't be able to deploy money on same day basis. This will affect us adversely."

Last but not least, the minimum maturity period for term deposits for Rs 15 lakh and above has been reduced to seven days from a fortnight. While cash funds are ahead with better tax breaks, some money could still flow to bank term deposits if the repo market does not develop. "If the repo market is good and deep, then the money market will be a superior option to a bank deposit. However, if the repo market is not on and we cannot not access the call money market, it will be a problem for us and we may end up competing with the banks on tax Breaks,'' points out Shah at Templeton.