A ₹500 crore debt scheme holds 8% in a bond that is downgraded. Redemptions of 40% are met by selling other bonds. What is the downgraded bond's share of the remaining portfolio?
When a debt fund holds a bond that runs into trouble, investors who redeem first could leave the bad bond to those who stay. Two tools deal with this: • Gating (restricting redemptions): allowed only in exceptional situations such as market-wide illiquidity, for at most 10 working days in 90 days, with the AMC and trustee boards' approval. During a restriction, the first ₹2 lakh of each redemption request is paid normally. • Segregated portfolio (side pocket): on a credit event, the bad bond is moved to a separate portfolio. Existing investors get the same number of units in it as they hold in the main portfolio. The main portfolio carries on normally; investors get money from the side pocket if and when the issuer pays.
Worked example
During a restriction, an investor asks to redeem ₹5 lakh. ₹2 lakh is paid normally; the other ₹3 lakh is subject to the restriction.
Exam trap: New investors do not get units of the segregated portfolio; only those holding units when it is created do.