Mumbai: Manish Agarwal, 31, makes his living by selling life insurance policies in the suburbs of Guwahati. He used to sell mutual funds till August 2009 when India’s capital market regulator banned the so-called entry load which distributors used to charge investors, causing that income stream to dry up.
Agarwal is one of the thousands of independent financial advisors, or IFAs, for whom fund distribution was the sole source of income. Following the entry load ban by the Securities and Exchange Board of India, or Sebi, the number of active IFAs has fallen to 20,000 from at least 50,000 in August 2009.
The number may swell again with Sebi allowing mutual fund distributors to charge a transaction fee from investors—Rs 100 for selling funds to existing investors and up to Rs 150 to new ones. This is not a reversal of stance but a tacit recognition of the fact that, along with investors, distributors are important in Sebi’s universe.
Agarwal wants to start hawking mutual funds once again.
Mutual fund distributors got their first glimmer of hope in February when U.K. Sinha was made Sebi chief. Former head of UTI Asset Management Co. (AMC) Ltd and also chairman of industry lobby Association of Mutual Funds of India, or AMFI, Sinha had been a critic of Sebi’s move to abolish entry loads. In April, Sebi’s wholetime member Prashant Saran invited 15 top distributors to its headquarters in Mumbai to discuss issues plaguing the industry. And in June, at a mutual fund summit held in Mumbai, when Sinha announced that a panel was working on ways to incentivize distributors, whispers ran through a section of the audience—happy days would soon be back.
With the imposition of the transaction fee, mutual fund investors’ costs will go up but Sinha claims that to arrest the fall in folio counts, it’s essential to incentivize distributors. For the distributors, the transaction charges will come as extra income, over and above the existing commission of up to 1.50% paid by fund houses.
“I have started meeting the sales and marketing teams to work on ways around the transaction charges to get new customers. The number of active IFAs will go up, the bank channels will become more aggressive and the decline in folios will stop,” said the chief marketing officer at a large domestic fund house. According to him, the average number of SIP applications could go up by at least 40-50% in a year from the 1.5 lakh at present.
SIPs, or systematic investment plans, are mutual fund investments in which money is invested in instalments, typically on a monthly basis, allowing customers to build up a portfolio gradually.
“The incentive will help in last-mile connectivity with clients and should work wonderfully for distributors across smaller towns,” added this person who did not want to be identified. Agarwal and other distributors in smaller towns will be able to recover the money spent in travelling to meet investors with the new source of income.
“Advisory fee along with a transaction fee of Rs 100-150 is very positive,” said Sundeep Sikka, CEO, Reliance Capital Asset Management Ltd. “This would at least ensure that distributors are not paying out of their pockets.”
“The very fact that Sebi has taken care of the transaction fee is good enough for the moment. This is a win-win situation for everyone. The online channel will pick up and sales of SIPs will definitely go up further,” Sikka said.
The additional compensation will not only encourage existing distributors but also motivate new distributors to join the industry, said Srinivas Jain, chief marketing officer of SBI Mutual Fund.
The genesis of Sebi’s new rule arises from a simple question: Who should compensate the distributor—the investor or the fund house?
According to former Sebi chairman C.B. Bhave, investors should compensate agents—directly and transparently. This would mean that if an investors invests Rs 100 in a scheme, the entire amount is invested, and not Rs 95.5 with the rest going to the agent through an entry-load mechanism; in addition, the investor pays a certain amount, say Rs 1 or Rs 2 or even Rs 2.5 to the agent for services rendered. Bhave and Sebi’s then executive director K.N. Vaidyanathan had argued that, if armed with thousands of schemes, distributors still could not increase the reach of mutual funds, then there was either something wrong with the schemes or they were just being launched to make distributors richer.
At a mutual fund summit in June 2010 in Mumbai, Bhave had criticized the way the industry was growing and urged it to focus on investors. He had said that mutual funds should look at how investors benefit from investing in their products, rather than creating an incentive structure that suits them.
The industry was grappling at the time with low sales of equity funds and Sebi was blamed for abolishing the entry load that incentivized distributors.
Earlier, a distributor could have earned an upfront commission of 2.25% by selling an equity scheme—Rs 2,250 on subscription money of Rs 1 lakh. The transaction fee will not give them as much but it does ensure some income flow. For instance, a distributor will earn Rs 100 for getting a single subscription of Rs 1 lakh but can earn as much as Rs 1,000 if 10 different schemes are sold for Rs 10,000 each to new customers.
Between August 2009 and December 2010, the industry saw a net outflow of Rs 22,690 crore. In 2010, the industry’s assets eroded by Rs 15,568 crore on a net basis, the highest in its history.
Sebi had all along defended its decision to ban entry loads, saying outflows were not a result of the entry load ban but because of fewer number of new fund offers, or NFOs. And NFOs were not being floated because Sebi discouraged them on the grounds that hundreds of similar schemes already existed.
According to data provided by Computer Age Management Systems (Cams) and Karvy Computer Ltd, two of India’s largest registrars in the mutual fund industry, there was a drop of seven lakh investor folios between April and June 2011 and another seven lakh folios between March 2010 and March 2011. The industry average suggests that one investor has four folios.
Sebi was unfazed. An internal note showed that since the entry load ban was imposed, investors have saved at least Rs 2,800 crore—at the rate of 2% that would have gone to the distributors. And Bhave had a clear vision of what he wanted—without investors, he believed, the industry could not survive.
Sinha has a different take on the subject—unless distributors are incentivized, the industry will not grow. “One has to understand that there has to be a market and then only you can protect investors. If there is no industry and no market, whom do you protect?” he said in an interview with Mint in May.
“Something is better than nothing,” said A. Balasubramanian, CEO, Birla Sun Life AMC Ltd. “The approach is right; in terms of the quantum one can debate whether it is adequate or not but nobody can question Sebi’s intention.”
Sebi’s move is “mood-lifting”, said Rajiv Deep Bajaj, vice-chairman and managing director of Bajaj Capital Ltd, a Delhi-based investment advisory firm. “The number of IFAs will grow, retail transactions will increase and falling folio counts will stop.”
Siddharth Shah, an Ahmedabad-based distributor, said the new charges would not make much of a difference since he had already started charging his clients, but distributors in small towns are sure to be motivated. “MFs are good products but need to be pushed. The investors suffer when the distributors stop selling MFs,” Shah added.
Ravi Kohli, another distributor in Delhi, said, “the move will at least prompt retail sales”.
The move could also also open up new grey areas. For instance, to maximize benefits of transaction fees, a distributor may split a single large application into several schemes to earn separately on each scheme.
Distributors used to tell investors to split their SIP commitments across multiple SIPs, said Divya Khemka, another Guwahati-based distributor. This could start happening again. “Investors, particularly those who live in small towns, will be the losers as they always buy what we suggest.”
While distributors debate on the grey areas and the tiny transaction fees, one thing is for sure —the mood in India’s Rs 7.43 trillion mutual fund industry has turned positive.
The former Sebi chairman wanted to protect investors from being fleeced by distributors. Its current boss believes the industry is as important as investors.