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Potential Risk Class Matrix

Posted By: Admin

From December 1st all mutual funds investors have been  receiving mail/SMSs from their respective fund’s house with a  notification on their debt fund potential risk class matrix.  Of course, only those who are holding debt funds.  From time to time, SEBI comes out with various measures to ensure the investors take the right decision.  Earlier, it introduced risk classification in the form of colours, then risk o meters, dynamic risk o meter post franklin fiasco.  

So what is this Potential Risk Class Matrix ? 

In terms of the SEBI circular dated June 07, 2021 (the Circular), all debt schemes are required to be classified in terms of a Potential Risk Class (PRC) matrix consisting of parameters based on maximum interest rate risk (measured by Macaulay Duration (MD) of a scheme) and maximum credit risk (measured by Credit Risk Value (CRV) of a scheme). This is a step towards bringing greater transparency about the manner in which each fund is being managed. About two years ago, SEBI had introduced norms of what should constitute Large Cap , Mid cap & other fund categories among the equity funds. This is a step in bringing greater clarity among the debt funds so that funds can be compared not just on the returns but based on the duration of the portfolio securities and the risk of the underlying debt papers that the fund manager is carrying.  

The  Potential Risk Class Matrix (PRCM) lists out each debt fund  on the basis of credit risk and interest rate risk.  The matrix would be low, moderate and high.   For interest rate risk, the longer the duration, the more a fund is sensitive to price swings.  So, the matrix will classify them into any of the 3 buckets, namely, low, moderate, high.  Similarly, credit risk is the risk of a funds instrument defaulting on its borrowing.  The idea of giving PRC (potential risk class) to make investors aware of the type of fund their monies are invested into.  However, taking a call to enter/exit on PRCM may not bring in optimum results.  We need to look into other aspects like liquidity, returns  needed by the investors etc. However this is a healthy initiative in helping the  investor to make a more informed decision while they are investing into debt funds. The best part about  this matrix is , any change in the fund’s underlying Duration or Credit Risk will have to be notified to the investor on a proactive basis, therefore forcing the fund manager to manage risks within the specified boundaries. 

PRCM is a step in the right direction that is helping greater transparency and diligence in the way in which Debt fund managers manage risk and deliver returns to investors. We are positive that these measures will give further confidence to the industry and help garner and manage even greater funds in the future.

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By Shridhar K, Senior Sherpa

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