Despite having a rigorous process to pick stocks with the best corporate governance practices, mutual funds are no better equipped to handle sudden scam-shocks.

On February 14, Punjab National Bank (PNB) disclosed that it had discovered fraudulent and unauthorised transactions totalling Rs 11,300 crore at their Mumbai branch. This was pursuant to an investigation after a complaint was filed on January 29. Over the next few days, the PNB stock lost more than one-fifth of its value.

A PNB official had filed a criminal complaint with Central Bureau of Investigation (CBI) against three companies, Solar Exports, Stellar Diamonds and Diamond R US, and four people, including Nirav Modi and Mehul Choksi, the managing director of Gitanjali Gems, saying they had defrauded the bank and caused a loss of Rs 280 crore.

PNB’s Rs 11,300 crore fraud has allegedly been perpetrated by its staffers – Gokulnath Shetty and Manoj Kharat. They are suspected of steering fraudulent loans to companies linked to billionaire jeweller Nirav Modi and entities tied to jewellery retailer Gitanjali, which is led by Modi's uncle, Mehul Choksi.

Other banks that are likely to be affected include the UCO Bank, Allahabad Bank, and State Bank of India (SBI), while Axis Bank stated that it had already sold its exposure to Nirav Modi and his firms.

The UCO Bank said it has an outstanding exposure of about Rs 2,636 crore and that it was confident of receiving the payment. At the same time, Allahabad Bank has an exposure of around Rs 2,000 crore by way of Letter of Undertakings (LoUs) issued by PNB to Nirav Modi. The State-owned Union Bank of India said it has an exposure of around Rs 1,915 crore in the fraud, but stressed its money is safe and it will recover the funds.

The day the scam surfaced, the share price of PNB tanked by nearly 10%. On February 15, the bank stock tanked another 12%. The Allahabad Bank fell 8% and 2% on February 14 and 15, respectively.

As on January 31, 2018, mutual funds held 232 million shares of PNB amounting to Rs 3,980 crore. If mutual funds left their holdings unchanged till February 16, the valuation of the holdings would work out to Rs 2,903 crore. Down by Rs 1,000 crore or 27%.

Among the fund houses that have a major exposure to PNB include – HDFC Mutual Fund, Reliance Mutual Fund, Aditya Birla Sun Life Mutual Fund, DSP BlackRock Mutual Fund, and Kotak Mahindra Mutual Fund.

On January 31st, the market value of PNB shares under HDFC Mutual Fund worked out to nearly Rs 1,861 crore. The market value of PNB shares for Reliance Mutual Fund, Aditya Birla Sun Life Mutual Fund, and DSP BlackRock Mutual Fund worked out to Rs 559 crore, Rs 351 crore, and Rs 276 crore, respectively.

Mutual Fund Exposure To Punjab National Bank (PNB)

AMC	No. of Shares	Market Value (Rs Cr.)	No. Of Schemes Holding PNB
HDFC Mutual Fund	108,586,741	1,860.63	13
Reliance Mutual Fund	32,631,159	559.14	10
Aditya Birla Sun Life Mutual Fund	20,480,571	350.93	11
DSP BlackRock Mutual Fund	16,124,960	276.30	7
Kotak Mahindra Mutual Fund	11,423,241	195.74	8
Franklin Templeton Mutual Fund	9,500,000	162.78	2
IDFC Mutual Fund	6,630,099	113.61	8
Tata Mutual Fund	5,940,000	101.72	5
ICICI Prudential Mutual Fund	4,522,760	77.50	3
L&T Mutual Fund	3,703,506	63.46	4

Data as on January 31, 2018
(Source: ACE MF, PersonalFN Research)

Among the equity schemes (excluding sector funds, close-ended funds and ETFs) that have a high portfolio exposure to PNB include, LIC MF Equity Fund, LIC MF Balanced Fund, Reliance Vision Fund, HDFC Premier Multi-Cap Fund, and Reliance Tax Saver (ELSS) Fund. As on January 31st, these schemes had a holding percentage of 5.53%, 3.72%, 3.32%, 2.52%, and 2.42%, respectively.

Scheme-wise Exposure To Punjab National Bank (PNB)

Scheme Name	No. of Shares	Market Value (Rs Cr.)	Portfolio Exposure to PNB (%)	1-week Return*
LIC MF Equity Fund	1,222,749	20.95	5.53	-1.72
LIC MF Balanced Fund	717,571	12.30	3.72	-1.23
Reliance Vision Fund	7,200,000	123.37	3.32	-2.23
HDFC Premier Multi-Cap Fund	500,000	8.57	2.52	-0.63
Reliance Tax Saver (ELSS) Fund	15,300,000	262.17	2.42	-2.29
Essel Long Term Advantage Fund	60,000	1.03	2.40	-1.87
IDFC Equity Fund	400,000	6.85	2.19	-0.36
Essel Equity Fund	307,000	5.26	2.12	-0.63
HDFC Prudence Fund	42,462,150	727.59	1.85	-1.24
HDFC Equity Fund	23,848,311	408.64	1.78	-1.46
Taurus Discovery Fund	54,000	0.92	1.77	-0.67
Franklin Build India Fund	1,300,000	22.28	1.76	-1.71
DSPBR Opportunities Fund	4,854,872	83.19	1.71	-0.60
L&T Equity Savings Fund	184,000	3.15	1.65	-0.01
DSPBR Tax Saver Fund	3,729,744	63.91	1.60	-0.85

*Absolute return as on February 16, 2018. Portfolio data as on January 31, 2018
(Source: ACE MF, PersonalFN Research)

Among the schemes with maximum stake in PNB are HDFC Prudence Fund, HDFC Equity Fund, HDFC Mid-Cap Opportunities Fund, Reliance Tax Saver (ELSS) Fund, and HDFC Top 200 Fund. As on January 31, 2018, the market value of their holdings totalled Rs 728 crore, Rs 409 crore, Rs 334 crore, Rs 262 crore, and Rs 182 crore.

Public Sector Banks (PSBs) are infamous for their shady operations. Crony capitalism and political string-pulling is the reason for the massive rise in bad loans under PSU Banks in the past few years. Despite a powerful SARFESI Act, enacted a decade ago, which strongly arms bankers with powers to recover loans, little progress has been made.

Between January 1, 2015 and March 31, 2017, as many as 5,200 officials of public sector banks have been penalised for fraud, as per an article published by Times of India, citing data from the Reserve Bank of India.

As many as 1,538 officials of the State Bank of India faced legal action for fraud, putting the bank on top of the chart. Indian Overseas Bank and Central Bank of India occupy the second and third place with 449 and 406 unscrupulous insiders, respectively. At PNB, 184 officials were caught for fraudulent activities during the same period.

Separate data accessed from the RBI records for the period between April 1, 2013 and December 31, 2016 shows that all commercial banks, including private ones, lost Rs 66,066 crore to 17,504 frauds.

Clearly, mutual funds now need to up the ante to identify such banks or companies that are likely to operate unethically, and safe guard their schemes from such frauds.

Over the week, PSBs susceptible to such frauds bit the bullet.

PSBs Tank Over The Past Week

Company Name	1 Week (%)	1 Month (%)
Punjab National Bank	-19.87	-26.35
Bank Of India	-8.73	-18.89
Syndicate Bank	-8.51	-22.68
State Bank Of India	-8.32	-10.24
Allahabad Bank	-8.06	-21.62
Corporation Bank	-7.02	-16.41
Union Bank Of India	-6.22	-14.18
Dena Bank	-4.67	-17.02
Oriental Bank Of Commerce	-4.45	-12.84
Vijaya Bank	-4.27	-10.92
Canara Bank	-4.20	-11.65
UCO Bank	-3.07	-8.53
Bank Of Maharashtra	-2.65	-13.41
Bank Of Baroda	-2.56	-6.19
Indian Overseas Bank	-2.39	-11.66

*Absolute return as on February 16, 2018
(Source: ACE MF, PersonalFN Research)

Several equity funds have a significant exposure to the State Bank of India. The stock would have created a drag on the returns of these schemes. Similarly, mutual funds with exposure to other PSB stocks would have suffered a similar fate.

Given the shoddy state of Public Sector Banks (PSBs), mutual fund houses are demonstrating their professional approach and astute wisdom. The exposure of PSBs is at a sub-2% level. This is because PSBs significantly contribute to the overall stress in the banking system. After all, they are the prime corporate lenders.

On the flip side, a majority of private sector banks lend to retail borrowers, a relatively less risky customers for banks, compared to the corporate borrowers.

Thus barring a few schemes, most equity-diversified funds will have low exposure to PSBs.

 

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