Whither mutual fund distributors?
The mutual fund (MF) industry has been living a life in a blender, or so it seems. There has been a steady stream of guidelines and directives over the past 8-9 years, and with no end in sight. The reforms are ostensibly for the purpose of protecting investors. While some of them do, others have been onerous for the industry and its distribution community. Costs have gone up as compliance and documentation requirements have increased. Regulatory activism in MFs is keeping the industry in a perpetually unsettled state. Reforms should be even-handed with investor protection on one hand, and the industry’s well-being on the other. This could contribute to a healthy industry, which would be good for the investors as well.
However, not all regulations are bad. Some are needed to give choice to investors (for instance, direct plans), and others to ensure that investor interests are taken care of. But some are just plain bizarre—like disclosing what a distributor is earning from each investment, all of which will be printed in a consolidated account statement (CAS).
There have been four pronouncements in the past three months that can alter the course of the industry.
Feeds to registered investment advisers (RIAs) for direct plans and their availability on the MF Utility portal (a transaction platform sponsored by the Association of Mutual Funds in India, or Amfi), is one such announcement. Direct plans are good for the informed investor, or for someone, who has a reliable adviser. Sharing feeds with RIAs is a step in the right direction. Allowing investments in direct plans via MF Utility is again positive. This gives investors the choice to do it themselves, or go to an RIA or continue with a distributor. It also allows clients to move away from those distributors who do not provide suitable services and advice—which is how it should be. This will keep distributors on their toes.
The second pronouncement is about bringing down the total expense ratio (TER), which is again good for investors and the industry as a whole. But persisting with quotas for sub-categories such as B15 (beyond top 15) cities, is negative. Overall, lower TER will bring down expenses for the investor. But the investor already has a choice to go the direct way and enjoy lower expenses. This can deliver a body blow to distributors whose earnings can be shaved off by a third. This would be in addition to the 14.5% service tax burden imposed on them last year. Also, there is a lot of paperwork, which has pushed up costs over the years. Fund houses and distributors will have no option but to learn to do more with less.
The third suggestion is to bring down the number of schemes, which has good and bad parts. The good part is that it will simplify the offerings into specific categories. However, it will also straitjacket fund houses into having undifferentiated schemes. No one is telling soap manufacturers how many varieties of soaps they can sell. As long as they are operating within the ambit of the law, they can have five or 500 variants. This overzealousness will kill the vibrancy in the MF industry, even though it may bring simplicity. It will not allow market forces to play out, and will curb innovation and differentiation.
What the Securities and Exchange Board of India (Sebi) could do is follow practices similar to what is in the pharmacuetical industry. Here, simplified products are available over-the-counter, which can be purchased by anyone, and complicated products require a doctor’s prescription.
Lastly, the one that has got the goat of distributors is the directive to disclose how much an adviser has earned (in rupee terms), irrespective of the amount earned from every fund, in a CAS. The TER is already disclosed. This additional disclosure does not in anyway aid the customer’s assessment of fund performance. It actually distracts them from the work that their distributor has done, and wrongly puts the focus on what the distributor earns. In no industry is remuneration sought to be disclosed across the board. This is aggressive targeting, something a regulator is not expected to do. This is not the correct way of nudging people into buying direct plans, which are not for everyone in the first place. Distributors are also worried that this will bring back passbacks—a practice that is illegal, and also harmful for the industry.
This will also create an uneven playing field, as other segments of the financial services industry are not handicapped like the MF industry. For instance, the insurance industry has been able to stay untouched. This may be due to its lobbying power, a regulator that is indulgent, and probably also because of government ownership of the main entity.
There are multiple headwinds that MF distributors are facing. The online distribution channels might wean away potential and existing customers. Doing business may turn difficult as the MF industry is fast becoming cumbersome and unremunerative for them and which will whittle down their numbers. However, smart distributors will use online platforms to lower their cost of operations and also get business, irrespective of the geography.
Online platforms might actually be a saviour for the MF industry since the target audience is in the age group of 25-45 years, who are Net savvy and most likely to embrace these channels. Also, every fund house has enabled investments via their websites, adding to ease of transactions. Mobile-based platforms and apps are becoming mainstream. All of this will lead to people doing their own research and investing directly, or seeking the advice of an RIA and then investing. Hence, the industry is expected to continue on its growth path even though the distributor may be a vanishing tribe.
Sebi, however, will have to stop its relentless tinkering for sometime, and allow the industry to settle down and find its level. The regulator should also lobby for a level playing field for MFs with the government. It will have to do this if it wants this industry to continue to serve investors.
Suresh Sadagopan, founder, Ladder7 Financial Advisories.