Definition
Side Pocketing
Side pocketing lets a debt fund separate a defaulted or downgraded bond into a distinct portfolio, ring-fencing the bad asset from the healthy ones.
When a holding turns risky, the fund creates a separate side pocket for it. Investors at that point get units in both the main portfolio and the side pocket. New investors are not affected by the troubled asset, and existing ones may recover something if the issuer later repays.
SEBI allowed this mechanism after the 2018-19 debt crises to protect investors from a rush of redemptions that would otherwise let some exit at the expense of those who stay. It promotes fairer treatment during a credit event.
Related terms
- Credit Risk FundA credit risk fund invests at least 65% in lower-rated corporate bonds (AA and below) to earn higher yields in exchange for taking on default risk.
- Credit RatingA credit rating is an independent agency's assessment of a borrower's ability to repay debt, ranging from AAA (safest) down to D (default).
- Liquidity Risk (Debt Fund)Liquidity risk is the danger that a debt fund cannot sell its bonds quickly at fair value to meet redemptions, especially during market stress, as the 2020 Franklin Templeton episode showed.
Plain-English explainer from The Dispatch Investors Encyclopedia. General information, not financial advice.