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New norms for debt fund NAV from Dec 1

Aabhas Pandya

Don't be surprised if the net asset value of your bond fund shows a sharp variation tomorrow. It will not be a typographical error but the result of the new pricing model, which has come into effect from December 1. Thus, funds with a conservative valuation system could actually see an appreciation in their underlying securities while NAVs of funds with an arbitrary pricing mechanism could witness a dip.

The Crisil model will usher in a uniform valuation system in the mutual fund industry. So far, asset management companies were following different methods to arrive at the prices of their debt securities, largely drawn from the models designed by Crisil and ICICI Securities. However, the arbitrary pricing of securities by some mutual funds has led to some glaring discrepancies in the past when interest rate volatility hit the debt markets. A standard valuation benchmark has been necessitated due to the highly illiquid debt market for corporate debt, which makes price discovery very difficult with even top-rated corporate papers, at times, unable to find a competitive quote.

"We expect a smooth transition from the I-Sec model to the Crisil model since the latter is also based on the G-Sec (government securities) yield curve,'' says Parijat Agarwal at Sun F&C Mutual Fund. "We have done some trial runs on our portfolio and the difference is only Rs 200,000-300,000 on a Rs 2 billion portfolio,'' he adds. Echoes Nilesh Shah at Templeton, "We are conducting trial run for the last 15 days and have faced no problems since almost the entire portfolio is liquid and we get daily quotes for our investments.''

However, the problem could lie with those bond funds, which have a higher allocation to non-traded debt and non-triple A paper and have not strictly adhered to valuation norms in the past. Once the funds re-align their prices according to the Crisil yield matrix, it will pull down the net asset value.

"The new valuation norm will now require funds to value securities with even up to one-year maturity. For instance, if a fund had heavily invested into one-year securities just before the interest rate hike in July, it will see its NAV take a dip since the prices are still lower than pre-July levels,'' says a fund manager at JM Mutual. "If these valuation norms were effected in September, all the funds would have got hit since they had a sizeable exposure to one-year securities amidst high short-term interest rates. The lower prices would have hit the NAV then,'' adds Shah.

Unfortunately though, fund managers see loopholes in the new valuation norms since it provides for "discretionary liquidity premium". "This still leaves scope for maneuverability since you can mark up (price higher) your securities with high liquidity and that will help AMCs cancel out the impact on prices of illiquid or thinly traded securities,'' says a fund manager.

That apart, fund managers are sore that the new model takes into account only deals, which are reported on the wholesale debt segment. "Most of the transactions in the debt markets take place on the phone and are not reported on the WDM segment. Thus, even if I am getting a better yield in an off-market transaction, it will not be reflected in the NAV. But I hope this anomaly will be corrected soon,'' says a fund manager.

"The I-Sec model used to take into account the deals taking place in the market and adjust the yield accordingly in its matrix. However, the Crisil model will adhere to only market deals, where most deals go unreported due to brokerage charges. Thus funds may get unnecessarily penalised simply because this model does not capture the market sentiment,'' points out another fund manager.

Source: Value Research

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