Amtek Group – Risk increases with downgrading of debt instruments by credit rating agency

In the August of 2015, Amtek Group informed stock exchanges that it was under liquidity stress as it did not have
sufficient cash to pay it’s debt.. This not only led to stock prices falling down it also impacted debt schemes which
had exposure to the debt instruments of the leading auto component manufacturer.

Two JP Morgan Mutual Fund's debt schemes — Short Term Income Fund's and India Treasury Fund which had a
total exposure of Rs. 4000 cr. — had to take a hit on their portfolios which had Amtek Auto's debt papers. These
schemes had to partially write-down the value of their investments in these schemes.

Amtek Group is a leading OEM manufacturer based in India has operations at global scale. The Company has
facilities across India, the United Kingdom, Germany, Brazil, Italy, Mexico, Hungary and the United States. It had
aggressively expanded in the last 10 years and had increased its exposure to unrelated businesses. Some of the
businesses the company expanded to include railways, specialty vehicles, aerospace, agricultural and heavy earth
moving equipment. The company had aggressively expanded using debt in the last 10 years and hence had become
highly risky by September 2015.

The company had total debt of Rs.7,844.12 crore. Amtek Auto’s interest coverage ratio, a measure of how easily
firms can meet their interest costs, has slipped from 7.28 in March 2008, to as low as 0.09 times at the end of June.
This showed that the total risk had increased for the company primarily due to increase in credit risk and default
risk.

When debts were issued in 2015, it was rated AA- (double A negative) by the ratings agency CARE. However, in the
beginning of September 2015 CARE suspended its coverage of the company due to concealment of information by
the rating agency. Rating agency Brickwork Ratings on September 2015 downgraded non-convertible debentures
(NCDs) worth Rs.484 crore issued by Amtek Auto Ltd to D rating due to delays in servicing debt. Instruments with
this rating are in default or are expected to be in default. The rating for the NCD issues has been revised on
account of delay in servicing of coupon to the debenture holders due on 1st October. Brickwork Ratings was the
only agency that was rating on credit facilities of Amtek Auto at that time. Other agencies such as Care Ratings
withdrew ratings on the company and its subsidiaries due to lack of adequate information from the company.

Security Exchange Board of India (SEBI) criticized the credit rating agency for sudden downgrade of the company.
The regulatory authority also advised the investors to not invest only on the basis of credit ratings.
This is a classic case of how ratings by credit agencies can go wrong and hence the risk assessment can go wrong. If
the risk assessment is wrong there is little or no correlation between expected return and actual return. Investors
generally end up making

‘Risk vs. return for investors’ depends on the assessment of risks by the credit rating agencies. In a lot of cases the credit rating
agency end up giving a higher credit rating than the company deserves. In such cases the credit rating is downgraded just before
the erring company defaults and this impacts the investors as risk and actual returns then are not directly proportional.

Discussion questions:

(1) What is the relationship between risk and return?

Hints: Risk and expected return are supposed to be directly related.
(2) What are the models that are generally used to measure expected return?
Hints: CAPM, APT and Fama French
Course Reference: Concept- Risk versus Return /Unit 1- Overview of Risk Management in Institutions /Subject-RMFI
Sources:
(1) Partha Sinha, “Amtek fund crunch hits JP Morgan MF”, LiveMint, December 18, 2015
(2) Anirudh Laskar, “Sebi urges mutual funds to stop relying solely on credit rating firms” October 01, 2015
(3) ET Bureau, “Amtek Auto defaults on Rs 800 crore bond payment”, ET, September 22, 2015
 Pradhan Mantri Jan Dhan Yojna (PMJDY) - Mobilise deposits in Rural India
On 28th August,2014, the Prime Minister of India launched a scheme to help improve financial inclusion in the
country - Pradhan Mantri Jan Dhan Yojna (PMJDY) . PMJDY is a National Mission on Financial Inclusion which
strived to include every household in India in the ambit of banking in India. The ambitious plan of the Modi
government aimed at providing at least one account holder for every family. The plan envisaged universal access to
banking facilities with at least one basic banking account for every household, financial literacy, access to credit,
insurance and pension facility.

Following are the benefits that account holders were given under this Yojna in order to make it attractive to the
masses:

1. Interest on deposit.
2. Accidental insurance cover of Rs.1.00 lac
3. No minimum balance required.
4. Life insurance cover of Rs.30,000/-
5. Easy Transfer of money across India
6. Beneficiaries of Government Schemes will get Direct Benefit Transfer in these accounts.
7. After satisfactory operation of the account for 6 months, an overdraft facility will be permitted
8. Access to Pension, insurance products.
9. Accidental Insurance Cover, RuPay Debit Card must be used at least once in 45 days.
10. Overdraft facility upto Rs.5000/- is available in only one account per household, preferably lady of the
household.

To make it simple for the account holders the only document that was required was Aadhar Card and self attested
address in case of change in address. This seemed to have worked. As on December 9, 2015, 195.2 million accounts
were opened and 166.7 million RuPay debit cards issued under the Prime Minister's Jan Dhan Yojana, which was
launched on August 28, 2014. However, the major challenge in front of the government is to keep the accounts
operational.

Commercial Banking accepts deposits from savers, for the purpose of lending and investing, besides rendering
various fee based services, including funds transfer, with profit motive. One of the main functions of public sector
banks in developing countries is to bank in unbanked areas and increase the reach of banks both in rural and urban
areas.

‘Commercial Banks’ especially public sector banks are an important player in helping increase financial inclusion in India.
The PMJDY has helped achieve this objective of the government in the short run. However, it needs to be seen how many of
these accounts would remain operational in the long run.

Discussion questions:
(1) What is financial inclusion? How does it help the economy?
Hints: Financial Inclusion refers to the process of delivery of financial services at affordable costs to vast sections
of disadvantaged and low income groups, it helps improve the economic conditions of the downtrodden.
(2) What are the other steps taken by the government to increase financial inclusion?
Hints: Payment Banks, consolidation of banks
Course Reference: Concept- Commercial Banking in India - Banking /Unit 2- Overview of Banks - Banking
/Subject-RMFI
Sources:
(1) PTI ,“Jan Dhan Yojna: 19.52 crore accounts opened in August-December”, DNA, December 23, 2015
(2) PTI, “PAN mandatory for opening all bank accounts except under PMJDY: Revenue Secretary” , DNA,
December 15th, , 2015
(3) PTI, “Deposits in accounts under PMJDY cross Rs 25k-cr mark”,One-India.com,October 13, 2015
 YES Bank: ALM Mismatch and impact of increasing interest rate
India has witnessed a 50 basis point cut in repo rates in September 2015. This cut in interest rate is unusual for two
reasons. Firstly, the Indian banking industry had not been expecting such a high rate cut. Secondly, since 2004 the
government had not cut interest rates in September month. The RBI generally refrains from cutting rates in monsoon
season. However, bad monsoon has been the reason for interest rate cuts. A falling interest rate scenario would
impact positive ALM buckets adversely. This is because decrease in interest rates impacts interest income
negatively and hence there is fall in interest income.

YES BANK, India’s fifth largest private sector Bank with a pan India presence across all 29 states and 7 Union
Territories of India, is headquartered in the Lower Parel Innovation District (LPID) of Mumbai. YES BANK has a
widespread branch network of over 630 branches across 375 cities, with 1150+ ATMs across India. The bank is one
of the most aggressive private sector banks in India.

Gap analysis is a method of evaluating the rate sensitive assets and liabilities by dividing them into buckets based on
the maturity of assets and liabilities. This tool helps analyse the interest rate risk. Following table gives the ALM
bucket of Yes Bank. The rate sensitive liabilities are more than rate sensitive assets in most of the periods. In the
given table the asset liability mismatch has been calculated.

Table 1 - Yes Bank ALM Bucket 2014-15(Rs ‘000)

Loans and Investment

Advances Securities Assets (A) = Liabilities(L) =
Maturity Buckets (LA) (I) LA+I Deposits(D) Borrowings(B) D+B A-L
1 day 2,784,816 0 2,784,816 6,645,029 0 6,645,029 -3,860,213
2 to 7 days 9,829,279 599,861 10,429,140 39,446,315 450,000 39,896,315 -29,467,175
8 to 14 days 13,797,704 1,038,786 14,836,490 35,031,009 24,000,000 59,031,009 -44,194,519
15 to 28 days 16,237,554 7,558,301 23,795,855 45,117,804 1,300,000 46,417,804 -22,621,949
29 days to 3 months 86,841,427 45,918,105 132,759,532 116,998,133 23,346,091 140,344,224 -7,584,692
Over 3 months to 6 months 81,114,305 25,116,612 106,230,917 136,151,083 31,547,560 167,698,643 -61,467,726
Over 6 months to 12 months 98,254,205 28,615,573 126,869,778 239,439,440 15,267,749 254,707,189 -127,837,411
Over 1 to 3 years 262,003,613 65,398,513 327,402,126 89,005,034 58,521,845 147,526,879 179,875,247
Over 3 to 5 years 92,125,563 48,780,576 140,906,139 195,398,854 20,212,768 215,611,622 -74,705,483
Over 5 years 92,509,695 243,026,039 335,535,734 8,525,781 87,558,000 96,083,781 239,451,953
755,498,16 911,758,48
  1 466,052,366 1,221,550,527 2 262,204,013 1,173,962,495 47,588,032

Source: Yes Bank Annual Report 2014 -15

The bank has a positive Asset liability mismatch of Rs. 47,588,032,000. As can be seen in the table over 5 year
bucket is positive by Rs. 239,451,953,000 which causes the Asset Liability mismatch to be positive. This means that
the bank would be impacted in the long run due to the change in interest rate. Hence, to correct the position the bank
has decided to increase exposure to 5 year infrastructure bonds. Yes Bank has lower exposure to the infrastructure
sector as compared to its public sector peers.

Asset liability management (ALM) can be defined as the comprehensive and dynamic framework for measuring,
monitoring and managing the financial risks associated with changing interest rates, foreign exchange rates and
other factors that can affect the organisation’s liquidity. Asset liability management enables a bank to calculate total
risk exposure it has.

The ‘Asset Liability Management’ is an important tool in the hands of the bankers to gauge and plan one’s exposure to
interest rate and liquidity risk. In the given scenario Yes Bank has strategized to increase exposure to long term investment
bonds so as to manage threat from interest rate hike better.
Discussion questions:
(1) What is Asset Liability management? Why is it important?
Hints: dynamic framework for measuring, monitoring and managing the financial risks associated with changing
interest rates, foreign exchange rates and other factors that can affect the organisation’s liquidity.
(2) How does ALM help manage liquidity risk?
Hints: The short term asset liability mismatch indicates liquidity risk.
Course Reference: Concept-ALM Implementation/Unit 3- Asset-Liability Management /Subject-RMFI
Sources:
(1) ET Bureau, “RBI's liquidity coverage rule may adversely affect some banks: Moody’s”, The Economic Times,
June 17, 2014
(2) Saikat Das, “ICICI Bank and YES Bank planning to raise up to Rs 4,500 crore through infrastructure bonds” ,
The Economic Times, January 14th, , 2015
(3) Yes Bank Annual Report , 2014-15

Issue of Bonds by Indian Bank made investor friendly

The Basel-III capital regulation has been implemented from April 1, 2013 in phases, to be fully implemented by
March 31, 2019. This has led to banks issuing Basel 3 compliant bonds. There are two kinds of debt papers under
the Basel III norms. One boosts the core capital of banks, also known as tier-I capital debt, and another that boosts
the secondary capital of bonds, known as tier-II instruments.
Basel 3 compliant tier II bonds worth Rs. 3,000 cr. have been issued by Indian Bank, a leading public sector Bank in
December of 2015. The tenor of the bond is 10 year and the yield is 8.25%.

The major difference between these bonds and existing subordinated debt is that unlike the existing bonds these can
be converted into equity shares at the discretion of the regulators if the bank capital falls below a threshold level.
This does not augur well for the investors as he faces the risk of losing his right to be paid before the equity
shareholders in the case the bank faces problems. This means that investors could potentially lose all of their money,
if and when a regulator determines that a specific bank has reached the point of non-viability. Existing subordinated
debt is only written off in the event of actual bank failure. This loss-absorption clause makes such a bond costly for
the bank to issue as they have to pay extra interest to cover the additional risk borne by investors. For example, Bank
of India in July raised Rs1,250 crore through Basel III bonds at 11%, about 2% more in coupon than what it could
have raised the money at, if it was not a Basel III bond.

This led to the Reserve Bank of India (RBI) bringing about a slew of changes in bonds issued under Basel III
international banking norms as a way to make it easier for banks to raise capital and also to make such bonds
attractive for investors. Following are the changes brought about:
1. Minimum maturity period of bonds have been halfed
2. Retail investors are allowed to invest in both tier -1 and tier – 2 perpetual bonds
3. In case of a perpetual bond, the call option, or the freedom given to banks to buy back the bonds, was set at 10
years. RBI now allows banks to buy back the instruments after five years.
4. Banks are allowed to convert the bonds, raised as part of the bank’s core capital, into equity capital or allow a
temporary write down of the principal value of the bond. Earlier, the rule was to convert the bonds into common
shares or permanently write down the loss, in case the bond issuer bank is in trouble. This would mean higher
level of safety for the investor.
5. Banks were allowed to dig into past reserves to pay their debt obligation.

In September 2014, after the revision in the bonds regulation IDBI bank, a leading private sector bank, issued TIER
1 capital worth Rs.2,500 crore. The coupon set for the bond was at 10.75%, payable annually which was 25 basis
point lower than the bonds issued by Indian Bank.
The issue was perpetual in nature with call option after the instrument would have run for 10 years. The amount
mobilized would be counted as a part of tier I capital and enhance the capital adequacy of the bank. Indian Bank has
again raised tier 2 Basel 3 compliant bonds of Rs. 3,000 cr. in December of 2015, at an interest rate of 8.25% for a
 period of 10 years. This shows that the bonds are slowly becoming investor friendly and evincing interest of bond
holders.

The Third Basel Accord is a global standard for banks, setting out minimum requirements for capital, liquidity and
leverage, designed to remedy some of the ills that led to the 2008-09 global financial crisis. Already seen in Europe,
the first US-dollar-denominated bank bonds in Asia that comply with the new regulations are now being issued and
a recent deal by a Hong Kong unit of Industrial & Commercial Bank of China saw strong demand from private bank
clients.

‘Basel 3 norms’ has brought about more stringent norms for banks globally. Unlike Basel I and Basel II, which focus
primarily on the level of bank loss reserves that banks are required to hold, Basel III focuses primarily on the risk of a run on
the bank by requiring differing levels of reserves for different forms of bank deposits and other borrowings. Therefore Basel
III does not, for the most part, supersede the guidelines known as Basel I and Basel II; rather, it will work alongside them. It
is the duty of the regulators such as Reserve Bank of India to effectively implement the norms in their respective countries.

Discussion questions:
(1) What are Basel 3 compliant bonds? Why do investors not like it?
Hints: Bonds which can be converted into equities at the regulators discretion. They are highly risky
(1) What is subordinated debt?
Hints: Debt which ranks after other debts if the bank falls into liquidation or bankruptcy.

Course Reference: Concept-Basel III/ Unit 4 -Basel I, Basel II, III and Solvency II Dodd Frank Act /Subject-RMFI

Sources:
(1) Anup Roy,“ RBI tweaks norms for Basel III bonds”, Live Mint, September 5, 2014
(2) Anup Roy, “IDBI Bank raises Rs2,500 crore through Basel III bonds” , Live Mint, October 17, 2014
(3) PTI, “Bank of India raises Rs. 3,000 cr via Basel-III compliant bonds”, BusinessLine, January 1, 2016

HDFC Ltd’s. Alternative Investment Funds (AIF) raises funds

HDFC Ltd, a leading housing finance company has launched an AIF with the name HDFC Capital Affordable Real
Estate Fund-1 (HCARE-1) in June 2015. HDFC offers financial services which include loans to individuals and
corporate as well as construction finance and lease rental discounting. It also operates in insurance, asset
management, education finance, venture funds and banking services segments.

HDFC Capital Advisors Ltd, a wholly owned subsidiary of HDFC, has been appointed as the investment manager
for the fund. to invest in long-term equity of mid-income housing. It will have a tenure of 12 years. A venture capital
firm generally has a life of 4 years. This fund has been raised under HDFC PMS which is separate from HDFC
Property Fund, the real estate private equity arm of HDFC Vipul Roongta, senior portfolio manager, real estate,
HDFC AMC was appointed the fund manager for the particular fund. AIF has raised Rs 2,700 crores to mark first
close of its new fund aimed at backing mid-income housing projects across the country. The target corpus of the
fund was Rs 5,000 crore. Hence, the fund is on the way to become the largest AIF in India.

Alternative Investment Funds have emerged as an alternative investment opportunity for the HNI investors both in
India and abroad. During the April-June quarter, AIFs have made an investment of Rs 9,094.55 crore, higher than Rs
7,357 crore invested in the preceding three months. The 158 Alternative Investment Funds (AIFs) have been
registered with the Securities and Exchange Board of India (Sebi) since August 2012. 70 AIF’s have been launched
in 2015, 67 in 2014 and the remaining 21 in 2013. Among the newly registered AIFs are, Unicorn India Ventures
Trust, Arthveda Affordable Housing Trust and Blume Ventures India Fund.

AIFs are funds established or incorporated in India for the purpose of pooling in capital from Indian and foreign
investors for investing as per a pre-decided policy. In India, alternative investment funds (AIFs) are defined in
Regulation 2(1)(b) of Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012.
 Under Security Exchange Board of India (SEBI) guidelines, AIFs can operate broadly in three categories. The SEBI
rules apply to all AIFs, including those operating as private equity funds, real estate funds and hedge funds. The
Category-I AIFs are those funds that get incentives from the government, SEBI or other regulators and include
social venture funds, infrastructure Funds, venture capital funds and SME funds. The Category-II AIFs can invest
anywhere in any combination but are prohibited from raising debt, except for meeting their day-to-day operational
requirements. The Category-III AIFs are those trading with a view to making short-term returns and includes hedge
funds among others.

Under Sebi guidelines, AIFs can operate broadly in three categories. The Sebi rules apply to all AIFs, including
those operating as private equity funds, real estate funds and
‘Alternative Investment Funds’ which provide investment avenue to invest in areas such as hedge funds, venture capital and
private equity investment is gathering credence in India. HDFC Capital Affordable Real Estate Fund-1 is the proof of the
same. Raising funds through these alterative investment strategies for real estate companies have led to much required
capital infusion for the middle income group (MIG) sized real estate industry.

Discussion questions:
(1) What are Alternative Investment Funds?
Hints: Funds established or incorporated in India for the purpose of pooling in capital from Indian and
foreign investors for investing as per a pre-decided policy
(2) How can Investors invest in hedge funds? Name some hedge funds existing in India along with their
investment objectives
Hints: Through category III AIF, eg. Mayur Hedge Funds.

Course Reference: Concept-Alternative Investment Funds and Hedge Funds/ Unit 6 - Risk Management in Mutual
Funds and Hedge Funds/ Subject - RMFI
Sources:
(1) Anuradha Verma, “HDFC's affordable housing fund hits first close with $405M”, VC Circle.com, January 8,
2016
(2) Vishal Chhabaria, “Alternative investments become part of mainstream” , Business Standard, December 26,
2015
(3) Pramugdha Mamgain, “India’s largest mortgage lender HDFC floats a new $758m realty fund”, DealStreet Asia,
January 08, 2016
 Binary Option – An Exotic Derivatives Instruments

In the August of 2015, Amtek Group informed stock exchanges that it was under liquidity stress as it did not have
sufficient cash to pay it’s debt.. This not only led to stock prices falling down it also impacted debt schemes which
had exposure to the debt instruments of the leading auto component manufacturer.

Two JP Morgan Mutual Fund's debt schemes — Short Term Income Fund's and India Treasury Fund which had a
total exposure of Rs. 4000 cr. — had to take a hit on their portfolios which had Amtek Auto's debt papers. These
schemes had to partially write-down the value of their investments in these schemes.

Amtek Group is a leading OEM manufacturer based in India has operations at global scale. The Company has
facilities across India, the United Kingdom, Germany, Brazil, Italy, Mexico, Hungary and the United States. It had
aggressively expanded in the last 10 years and had increased its exposure to unrelated businesses. Some of the
businesses the company expanded to include railways, specialty vehicles, aerospace, agricultural and heavy earth
moving equipment. The company had aggressively expanded using debt in the last 10 years and hence had become
highly risky by September 2015.

The company had total debt of Rs.7,844.12 crore. Amtek Auto’s interest coverage ratio, a measure of how easily
firms can meet their interest costs, has slipped from 7.28 in March 2008, to as low as 0.09 times at the end of June.
This showed that the total risk had increased for the company primarily due to increase in credit risk and default
risk.

When debts were issued in 2015, it was rated AA- (double A negative) by the ratings agency CARE. However, in the
beginning of September 2015 CARE suspended its coverage of the company due to concealment of information by
the rating agency. Rating agency Brickwork Ratings on September 2015 downgraded non-convertible debentures
(NCDs) worth Rs.484 crore issued by Amtek Auto Ltd to D rating due to delays in servicing debt. Instruments with
this rating are in default or are expected to be in default. The rating for the NCD issues has been revised on
account of delay in servicing of coupon to the debenture holders due on 1st October. Brickwork Ratings was the
only agency that was rating on credit facilities of Amtek Auto at that time. Other agencies such as Care Ratings
withdrew ratings on the company and its subsidiaries due to lack of adequate information from the company.

Security Exchange Board of India (SEBI) criticized the credit rating agency for sudden downgrade of the company.
The regulatory authority also advised the investors to not invest only on the basis of credit ratings.
This is a classic case of how ratings by credit agencies can go wrong and hence the risk assessment can go wrong. If
the risk assessment is wrong there is little or no correlation between expected return and actual return. Investors
generally end up making

‘Risk vs. return for investors’ depends on the assessment of risks by the credit rating agencies. In a lot of cases the credit rating
agency end up giving a higher credit rating than the company deserves. In such cases the credit rating is downgraded just before
the erring company defaults and this impacts the investors as risk and actual returns then are not directly proportional.

Discussion questions:

(1) What is the relationship between risk and return?

Hints: Risk and expected return are supposed to be directly related.
(2) What are the models that are generally used to measure expected return?
Hints: CAPM, APT and Fama French
Course Reference: Concept- Risk versus Return /Unit 1- Overview of Risk Management in Institutions /Subject-RMFI
Sources:
(1) Partha Sinha, “Amtek fund crunch hits JP Morgan MF”, LiveMint, December 18, 2015
(2) Anirudh Laskar, “Sebi urges mutual funds to stop relying solely on credit rating firms” October 01, 2015
(3) ET Bureau, “Amtek Auto defaults on Rs 800 crore bond payment”, ET, September 22, 2015