BackBlue, yellow and brown. Mutual funds get a colour code
We need some industry leaders to show leadership by doing justice to the concept.
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Sixteen years ago, when I switched jobs from the leader in daily business news to join a start-up magazine that aimed to help average middle-class people manage their money, there was more than one comment on the foolhardiness of doing this. Business journalism was corporate-facing and personal finance as a genre did not exist. We had tip sheets that further confirmed the belief that the stock market was a casino. Home loans, credit cards, mutual funds (MFs), life and medical insurance products either did not exist for the average Mr Gupta or was very basic in the offering. But the magazine hit the stands around the time that these products were just about coming to the market and the consumers were keen to understand them better. The genre has been a success, but over the years my struggle has been not just with getting reporters to “get" personal finance reporting but also with regulators and policy makers who did not think that the final retail customer deserved much attention. Regulators were more concerned with systemic risk and the risk of failure of banks and financial sector companies, making them work somewhat like industry associations rather than regulators. The corporate-first attitude shows up in the nomenclature of policy and regulations. Insurance and mutual funds are all about “penetration". The pecking order for the industry is decided by assets under management and not the financial well-being of consumers of financial products. Life insurance is measured by number of policies and premium income and not the sum assured per policy.
The one thing globally that made a dent (too early to say “changed") in this attitude of the regulators was the 2008 financial crisis that showed what the end of the world looked liked because financial firms hard sold products that buyers did not understand. The response of the Indian regulators has been piecemeal and has varied greatly across regulatory turfs. The most innovative and proactive has been the Securities and Exchange Board of India (Sebi) as an institution (across changes in the chairman over the last decade) as compared with the others in this space. The removal of the entry load to take away the conflict of interest in MF sales, the financial adviser regulations, the direct plan in funds are some examples of this. The latest move from Sebi looks at empowering investors in MF with disclosures in a manner that is easy to understand.
A bit of background first. One of the things that regulators across the world grapple with is the problem of information asymmetry. A financial product is invisible. It is in its description, either through the company disclosures or by the seller, that it becomes visible to the buyer.
Given that the disclosures are written largely to obfuscate rather than inform and run into tens of pages, the responsibility of explaining the product devolves on the seller. The seller, trained by the product manufacturer, will always have more information than the person buying—because the product is invisible. It is in this information asymmetry that mis-selling happens—the sellers will talk up the positives like return and hide the negatives like cost. How to communicate the key features of a financial product to the end user has been a subject of worry for regulators. An innovative idea that some countries are experimenting with is called “product labelling". The idea is the same as a food label—you get to know what’s inside the box.
Sebi’s goal, if I understand this correctly, is to give MF investors a brief introduction to the product through a three-step disclosure process. First, in one line the fund house will have to tell you the aim of the scheme. Remember, an MF is like a bus, it takes all those who prefer not to drive their car, to a common destination. Investors need to understand where each bus will go from the depot and then choose the one that suits their destination.
So, the one line should tell you that the aim of the fund is capital preservation. Or that it is building long-term wealth. Or that it is regular returns. The second disclosure is about what is under the hood. What will this MF invest in? Will it be bonds, equity, gold or a mixture of the three? And within equity, will it be mid-caps or large-caps? The third disclosure looks at alerting you to the risk of the product. A blue colour code will tell you that the product is a low-risk product; yellow will stand for medium risk and brown for high risk.
We know that the packaged food multinational companies have managed to cheat the product labelling regulation—do you think the 100% natural juice is indeed that? MF companies can make product labelling look silly if they choose to. We need some industry leaders to show leadership by doing justice to the concept. India is one of the first countries to try this in any serious manner—let’s not mess it up.
Monika Halan works in the area of financial literacy and financial intermediation policy and is a certified financial planner. She is editor, Mint Money, and Yale World Fellow 2011. She can be reached at expenseaccount@livemint.com
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