DHFL downgrade leaves banks, MFs unsettled; turns NBFCs untouchable
The DHFL scrip has lost one-fifth of its market value on stock exchanges in past three days.
The failure of Wadhawan group housing finance company (HFC) to service interest payment on Rs 960 crore non-convertible debentures (NCDs) triggered a mandatory markdown by mutual funds holding its papers by 75 per cent to 100 per cent on Tuesday, causing net asset values (NAVs) of many debt schemes to slump by up to 53 per cent in a single day.
The DHFL scrip has lost one-fifth of its market value on stock exchanges in past three days. A few bank stocks, too, have taken a hit, as their exposure to DHFL bonds may see MTM losses, and some of them may need to provide for the loans.
Besides NCDs, DHFL has Rs 850 crore of outstanding commercial papers (CPs), out of which Rs 750 crore is due in June. The first CP matures on Friday.
CRISIL earlier this week downgraded its rating on DHFL’s CPs to ‘default’ grade. Two other rating agencies have also downgraded their ratings on the NBFC’s papers citing similar concerns.
While DHFL has a one-week grace period to service its NCD debt, analysts said the liquidity situation remains tight. The company is looking to raise Rs 900 crore by issuing Pass Through Certificates (PTCs), or securities used in loan portfolio sales.
The NBFC is said to have tried selling some loan portfolios to a few banks earlier this week, but the deal did not fructify due to technical reasons.
Reports, meanwhile, suggest the HFC has received RBI’s nod to sell its education loan subsidiary Avanse to Warburg Pincus for an enterprise value of Rs 1,000-1,200 crore.
Dark clouds over NBFC sector
The DHFL default has just made lenders more cautious, raising risk that other NBFCs with similar asset-liability mismatch may not find it difficult to raise funds to service their debt.
Already, spreads on corporate bonds have risen by 20-30 bps post IL&FS default. Access to bonds has polarised to high quality borrowers, said CLSA.
This could potentially mean more bad news in the next few months if no steps are taken to ease the liquidity situation. This does not bode well for NBFCs and their investors.
What are debt funds doing now
Many mutual funds, including DHFL Pramerica, Tata Mutual Fund, BNP Paribas Mutual Fund, Baroda Mutual Fund and DSP Mutual Fund, have suspended sale of DHFL schemes. This, after they took 75-100 per cent knock on NAVs as mandated.
Tata Mutual Fund, in a first, has announced ‘side-pocketing’, segregating its holdings in three DHFL-hit schemes.
In side-pocketing, a fund can separate the bad bonds from its main portfolio into a ‘side pocket’. This results in the NAV reflecting only the good assets, while the bad one is assigned a separate NAV on the estimated realisable value for investors. This may help avoid freezing of liquidity in the good portfolio.
While investors can sell the scheme they hold, they cannot redeem that of the side-pocketed assets unless there is a recovery on that asset, upon which the value is credited to the unitholder. Only investors who were there in it at the time of the write off, will get the benefit of any future recovery from the bond.
Schemes such as DHFL Pramerica Medium Term, DHFL Pramerica Floating Rate, Tata Corporate Bond, Baroda Treasury and BNP Paribas Medium Term, saw NAVs of some of their schemes plunge up to 53 per cent on Tuesday.
In all, 163 schemes of UTI MF, Axis MF, DHFL Pramerica, DSP and Tata Mutual Fund and 17 other mutual fund houses had Rs 5,200 crore in total exposure to DHFL as of April 30. Add group subsidiaries, the total exposure would rise at Rs 6,500 crore.
“There has been a fair bit of outflows from credit schemes, as investors panicked,” said Kaustubh Belapurkar, director of fund research at Morningstar Investment Adviser.
“They need to understand that there is going to be some sort of credit risk embedded in some of these products,” he said.
In case of stock investors, shares of Yes Bank and IndusInd Bank and a few public sector lenders have been seeing selling pressure.
In its guidance for FY20, SBI said without naming DHFL that it has considered the crisis for slippage as well as credit cost.
Shares of DHFL have lost 19.8 per cent in three sessions till Friday.
Core of problem
There is a difference between bank lending and that of mutual fund. A banker makes three considerations before lending: seeks the purpose behind the borrowing; takes securities to make up for any losses on the loans and verifies if its end use can help it pay back.
But in case of lending by mutual funds, the end use of the funds and the source of the repayment are not given due consideration as AMCs only deal with the market risk, which is the ability of NBFC to refinance that loan from another market participant at the end of the tenure.
In case of the current crisis, due to cheap short-term loans available in the past, many NBFCs used these funds to service their long-term loans. This led to an asset-liability mismatch (ALM).
“You cannot take a 90-day loan to refinance a 10-year infrastructure project,” an MD with a domestic mutual fund house recently told ETMarkets.com, putting the blame squarely on the rating agencies for their failure to flag the danger.
He said it is impossible for 20 debt fund managers to do individual due diligence on the same Rs 1,000 crore issue on offer for Rs 50 crore investment each.
“Unless you are Bejan Daruwalla, it is difficult to guess market risks in fixed income products for three years,” the official at the fund house said.
Investor lobbies too are blaming rating agencies and regulators.
The regulators and ratings agencies could have acted more proactively. The default risk has been there for a long time, the first sign being the negative reaction by the company and other market participants to the sale of Rs 300 crore worth of bonds by DSP Mutual Fund, said Shriram Subramanian at corporate governance advisory firm, InGovern Research Services.
“The liquidity issue is turning into a solvency issue now. Ratings agencies could have flagged the default risk much earlier, and regulators could have acted much earlier. If this translates into a contagion, the crisis will deepen further, he said
RBI fails to assuage investors
Analysts said Thursday’s RBI policy failed to assuage investor concerns over NBFCs, a day after DHFL failed to pay interest on NCDs.
“Jittery markets are facing a crisis of confidence with respect to the precariously perched NBFC (including HFCs) and fixed income mutual funds,” said Ajay Bodke of Prabhudas Lilladher, who feels the broad, motherhood statements are unlikely assuage market concerns.
Addressing the customary post-money policy press conference, Governor Shaktikanta Das reiterated RBI would maintain sufficient liquidity in the system, but stopped short of specifying measures. He acknowledged the NBFC crisis, but said the central bank has no jurisdiction over the sector.
“RBI does not regulate housing finance companies,” he said. “Nonetheless, banks have significant exposure to HFCs and RBI in any case has a mandate to look after the financial stability of the entire economy. In this background, RBI has been closely following the activity, performance and developments in the NBFC sector,” he said.
What should investors do?
CLSA said NBFCs with strong credit ratings and those that have government backing are better off. The ones that have maintained high liquidity will be able to manage the tight financial markets better.
Yogesh Mehta of Motilal Oswal Securities said he would totally avoid NBFCs at this point. “A lot of ambiguity is there, from liquidity to now solvency issue. We feel banks would be a much safer space to be compared with NBFCs,” Mehta said.