Fitch rates Ceylon Gilt-Edged fund ‘AAA’/’V1’

Fitch Ratings has assigned the Ceylon Gilt-Edged fund a ‘AAA (lka)’ National Fund Credit Rating and ‘V1(lka)’ National Fund Volatility Rating. The fund is managed by Ceylon Asset Management (CAM).

The ‘AAA (lka)’ National Fund Credit Rating is driven by the fund’s investment in Government securities and repurchase agreements backed by Government securities only. Fitch considers the national credit quality of Sri Lankan Government securities to be AAA (lka). The key rating driver for the ‘V1 (lka)’ National Fund Volatility Rating is the fund’s investment in Government securities only, with a maximum maturity of one year. As a result, the fund incurs low interest rate risk and negligible spread risk in the context of the Sri Lankan market.

Asset credit quality

The portfolio is exposed to Sri Lanka Government debt instruments and repo backed by Government securities. Consistent with Fitch’s view that the credit risk of Sri Lankan Government securities is AAA (lka) the fund is therefore of equivalent credit quality. Repo contracts are over collateralised and as at March 2013 the existing repo contract was over collateralised by 14%. Repo contracts are backed by government securities.

Portfolio sensitivity to market risk

The fund invests only in short-dated Government securities and repos backed by such securities. As a result in a national context its sensitivity to market risk is very low. The fund seeks to provide duration matched investment strategies for its investors (investors enter the fund with a specified maturity target which is matched to the maturity of securities in the fund). These duration matched holdings are not subject to early redemption restrictions. Fitch considers, however, that the liquidity provided by the secondary market in Sri Lankan Government debt and the 30 day advanced notice required for redemptions greater than 3% of fund assets is sufficient to make a ‘V1 (lka)’ National Fund Volatility rating applicable.

Fund profile

The fund is regulated by the Securities and Exchange Commission of Sri Lanka under the Unit Trust Code, 2011. The fund’s trustee is Deutsche Bank Sri Lanka, a branch of Deutsche Bank AG (rated ‘A+/Stable/F1+’). The fund was launched in 2012 and has been providing fund investors with liquidity throughout this period. As of end March 2013 the fund was small with total assets under management well below the highs since inception and shareholders in the fund were highly concentrated.

The advisor

Fitch considers CAM suitably qualified, competent and capable of managing the fund. The investment committee has deep experience and the company has sufficient sources of information on which to base its decision making process. Fitch considers the systems supporting the fund’s investment activities satisfactory.

CAM is 25% owned by Sri Lanka Insurance Corporation Ltd (SLIC, ‘AA-(lka)’/ Stable) and 75% by Ceylon Capital Trust (Pvt) Ltd (NR). The business is currently in an investment phase and Fitch believes it to be supported by shareholders. CAM has been in existence and managing funds since 1999. The current management team has been in-place since 2005 and SLIC invested in the business in 2010.

As of end-March 2013 Ceylon Asset Management employed 11 staff members. Securities and Exchange Commission of Sri Lanka data as of December 2011 indicated that CAM had a small market share. Fitch expects that, despite its small size, the Sri Lankan unit trust industry will continue to grow, supported by regulatory initiatives. Given the relatively small sizes of CAM and of the fund, Fitch will monitor both the fund and asset manager closely. The agency expects to conduct an interim review of the fund and manager approximately six months after the initial rating assignment.

Rating sensitivity

Funds in the ‘AAA (lka)’ rating category are considered to have high underlying credit quality relative to other entities in the Sri Lankan market. The fund’s assets are expected to maintain a weighted-average portfolio rating of ‘AAA (lka)’. Funds in the ‘V1 (lka)’ rating category are considered to have very low sensitivity to market risk. On a relative basis, total returns are expected to exhibit high stability, performing consistently across a broad range of market scenarios. These funds offer very low risk exposure to interest rates, credit spreads and other risk factors. The fund’s assets are expected to maintain a Volatility rating of ‘V1 (lka)’.

Comparisons between different national fund rating scales or between an individual national and international scale are inappropriate. The ratings assigned to the fund may be sensitive to material changes in its credit quality or investment guidelines. A material adverse deviation from Fitch criteria for any key rating driver could cause ratings to be downgraded by Fitch. The rating is also sensitive to Fitch’s view that Sri Lankan Government securities are the lowest relative risk in Sri Lanka. A change in this view could cause Fitch to downgrade the rating consistent with its revised view on the relative credit worthiness of Sri Lankan Government securities.