Is US-64 run like
a hedge fund, as alleged by a section of the Fourth Estate?
The allegation has been made just because Unit Trust of
India (UTI) has borrowed from the market and from other
schemes to meet the difference of Rs 6,500 crore between
the current market value of the US-64 portfolio and the
experts, however, do not subscribe to the view. "The
NAV of the mutual fund represents nothing but the current
market value of the portfolio. Thus, the first reason
cited in the report is totally baseless."
The unit capital
(asset base) of US-64s investments as on 28 December
2001 was pegged at Rs 13,895 crore. The NAV at Rs 5.81
per unit as on the same date works out to Rs 7,424 crore.
That means, the total asset base is funded out of unit-holders
capital of Rs 7,424 crore and borrowings of Rs 6,471 crore.
Let us understand
how the mutual fund operates. When the value of
assets goes into a tailspin, the mutual funds borrow amounts
to the extent of the shortfall between the outstanding
unit capital and the market value of the portfolio. The
shortfall have to be funded through either borrowings
or internal accruals, so that in case of redemptions the
fund is able to repay without further depletion in the
market value of the portfolio.
US-64 has done
exactly this borrowed funds to meet redemptions. Since
the US-64 portfolio has depreciated due to lower stock
prices, the difference between the unit value and the
portfolio value is glaring. Another important point to
be noted is that US-64 has become NAV-based only for the
past two days. Till July 2001, when the sales and repurchase
activites were suspended, the repurchase price was broadly
considered as the NAV of the scheme.
US-64 is continuing
with the repurchase price till May 2003 for retail investors
up to 5,000 units concurrently with the NAV-based pricing
mechanism for larger investors. This means that US-64
will face redemption pressure for another 17 months, as
the repurchase price ranging between Rs 10.50 to Rs 12
is higher than the NAV-based price.
Now let us look
at how hedge funds, or more specifically leveraged funds,
operate. Based on a small pool of unit-holders funds,
these funds borrow from the market to fund a bigger pool
of investments. The returns on this larger pool of investments,
after deducting the fixed interest to be paid to the lenders,
are then distributed to the small pool of unit-holders.
Here is where the
difference is. The leveraged funds borrow money to invest
more in financial instruments with the objective of earning
higher returns, while regular mutual funds like the US-64
borrow money to meet redemptions.
UTI chairman M
Damodaran has denied that US-64 is being operated as a
hedge fund. "We are not borrowing from the market
to build assets. We have resorted to borrowing only once
in April-May 2001 to meet the redemption pressure,"
says that even though UTI borrowed Rs 6,900 crore to meet
the redemption pressure (in April-May 2001), only Rs 2,500
crore was borrowed from banks and the rest came from UTIs
internal liquidity pool.
no borrowing after July 2001. And please also note the
fact that we have been able to reduce the liability (negative
liquidity) substantially by Rs 2,900 crore. The liability
has come down from Rs 6,900 crore to Rs 4,000 crore now,"
for mutual funds prohibit mutual funds from leveraging
or borrowing funds in order to invest in the market. Investments
have to be necessarily made out of the corpus provided
from the investor pool. And funds can borrow up to 20
per cent of their net asset to fund redemptions. This
also applies to UTI.
The scheme, however,
has not benefited by not selling part of its holding in
the market when it faced a redemption pressure in April
and May 2001. The current equity portfolio shows
that the market value of technology stocks in its portfolio
had depreciated substantially between April-May and December
2001, making it all the more difficult to sell portfolio
and fund redemptions.
The big holdings
in the scheme have under-performed the BSE Sensex, which
declined 10.2 per cent between April and December. For
instance, Reliance Industries, which makes up the single
biggest chunk of the US-64 portfolio at 13.84 per cent
with 6.20 crore shares, is 17.6 per cent lower today than
the average market price of Rs 370.20 in the month of
market value of ITC shares is down 14.9 per cent, Reliance
Petroleum (down 42.8 per cent), SBI (down 20.8 per cent),
ICICI (down 48.4 per cent) Tisco (down 36.9 per cent)
and Hindalco (down 26.9 per cent). The top holding of
the scheme is the 11.24-per cent 2004 G-sec with a market
value of Rs 3,569.75 crore. While ITC is at the third
position with a value of Rs 804.23 crore, Reliance Petro
is at fourth with a value of Rs 641.24 crore.
The other major
counters where the fund took exposures are Infosys Technologies
(investment: Rs 311.70 crore), Hindustan Lever (Rs 310.81
crore), HDFC (Rs 309.04 crore), Bharat Petroleum Corporation
(Rs 191.55 crore), SBI (Rs 184.03 crore) and MTNL (Rs
The fund had also
invested Rs 286.92 crore in the non-convertible debenture
(NCD) of Jindal Iron and Steel Company. It has invested
Rs 80.48 crore and Rs 78.75 crore in the NCD of IDBI and
respectively. The fund still has investments of Rs 71.33
crore in Zee Telefilms and Rs 35.36 crore in Himachal
has ruled out any distress sale of equities in the open
market and has made it clear that over Rs 2,500 crore
has been tied up with banks and financial institutions
to tide over the crisis.