In a year of downgrades and defaults, the corporate debt fund category of the National Pension System (called Asset Class C) has delivered returns of 11-13%. The average return on corporate bond mutual funds (the most comparable mutual fund category) on the other hand, is 8.20%. Mutual Fund schemes were hit hard by exposure to defaults and downgrades in groups such as IL&FS, Essel, DHFL, Reliance ADAG, Sintex BAPL and Altico. NPS Pension Funds were also exposed to some of these groups, but this was contained at low levels relative to the size of the pension funds. Over the past 3 years and 5 years, NPS Asset Class C has delivered returns in the range of 9-9.7%, higher than the 7.5% given by corporate bond funds.
“Our modified duration is around 4.5. We have benefited strongly from the fall in yields this year,” said the CIO of a leading pension fund on the condition of anonymity. Yields on the benchmark 10 year Government of India Bond have fallen by 0.70% over the past year from 7.30% to 6.60% on the back of successive rate cuts by the RBI. “Our exposure to bad debt is also low relative to mutual funds,” he added. PFRDA investment norms mandate that 90% of the corporate debt fund corpus should be in schemes rated AA and above. The balance 10% can be in debt rate A to AA-. NPS had an exposure of ₹1,270 crore to IL&FS and was also exposed to some other groups like DHFL. However the exposure has failed to make a dent in scheme returns. PFRDA rules also restrict debt exposure to sponsor groups at 5% and non-sponsor single group exposure at 10% of the debt corpus. SEBI on the other hand allows a higher 10% debt exposure to sponsor groups for mutual funds. For non-sponsor groups exposure up to 20% is allowed (which can be increased to 25% with approval from the Board of Trustees).
Some of the outperformance is simply on account of valuation. NPS follows a matrix level valuation for debt securities rather than security level valuation. This is changing from 1st Jan. You can read more about it here (read more). “A change in valuation norms from matrix level to security level could cause a 1-2% drop in NAV on 1st Jan. However even after factoring the cut, we have outperformed mutual funds,” said the CIO.
A third factor driving NPS performance is the fee cap on pension fund managers at 0.01% of the corpus. Debt mutual funds typically between 0.5%-1% as expense ratios on corporate bonds funds which is 50 to 100 times higher.
NPS Tier I is a long term product (with a lock-in till the age of 60) and hence it is not directly comparable with debt mutual funds can be used for short term goals also. However NPS Tier 2 can be used for short term goals and has no lock-in. Unfortunately there is no clarity on the gains in NPS Tier 2 while debt mutual funds enjoy the benefits of a 20% long term capital gains tax and indexation if held for more than 3 years. Investors should watch this space carefully. Any clarity on taxation will provide them with an efficient alternative in the fixed income space.
Source: livemint
