Mumbai: India’s capital market regulator wants underperforming asset management companies (AMCs) to stop charging fees from investors, in a controversial move aimed at protecting the interests of mutual fund (MF) buyers.
MF executives are divided over the merits of the move by the Securities and Exchange Board of India (Sebi), which has pulled up several AMCs that have been managing hundreds of non-performing equity schemes for years and yet continue to seek approval to launch new funds.
Sebi also wants AMCs to explain why they should be allowed to charge fees if a scheme has underperformed the index against which it benchmarked and failed to make money for its investors, said two persons with direct knowledge of the matter. Both persons, one of them a government official, spoke on condition of anonymity.
“Sebi has been reviewing the performance of fund managers regularly. The fund managers must justify their performance and fees for schemes that have consistently failed to perform,” said the government official.
A Sebi spokesman declined to comment.
Around one-third of equity schemes have underperformed their benchmark indices in terms of delivering one-year, three-year and five-year returns.
According to Mint research, 117 out of 329 open-ended equity schemes underperformed their benchmark indices in the past year; 98 of 298 schemes underperformed in the past three years; and 80 out of 209 schemes underperformed in the past five years.
Sebi has also asked AMCs to explain why they do not wind up non-performing schemes before they launch a new one and has refused to clear applications for launching new funds by asset managers that have non-performing schemes.
Sebi chairman U.K. Sinha has been criticizing AMCs for running dozens of non-performing schemes.
India has 44 AMCs, which were managing assets worth around Rs.8.26 trillion as of 31 January.
“If you have so many schemes and a majority of them have underperformed, what’s the rationale of coming up with new schemes?” the government official asked.
While Sebi does have the powers to question AMCs on performance and restrain new launches, it cannot dictate the fees charged by AMCs as long as they are within the specified limits. But it does have ways to persuade them to pare fees by questioning them on the performance of existing schemes and restraining them from launching new ones.
After the ban on entry loads—or initial charges collected by AMCs when an investor buys into a scheme—in 2009, this is another instance of the regulator raising concern over fees.
This time, it is questioning annual fund management charges—a part of the total expense ratio, capped at 3% currently. Total expense ratio is a measure of the total costs associated with managing and operating an MF. Typically, AMCs charge around 1% as fund management fees.
Mint spoke to the top officials at eight fund houses. Two of them criticized Sebi’s move and said it may eventually result in regulatory control of the annual fund management charges. All spoke on condition of anonymity.
Though the regulator cannot direct AMCs to vary their charges according to a scheme’s performance, it can amend MF regulations to cap the fund management charge at a certain level, or scrap it altogether.
“Sebi’s thinking is in the right direction and will benefit investors,” said the chief executive officer (CEO) of one of India’s largest AMCs.
The CEO of another AMC pointed out that a scheme may continue to underperform even if it does not charge any fees. If Sebi wants to monitor the performance of funds, it needs to take a different approach, he explained. “The regulator should question the trustees, sponsors and the managers on stock picking, quality of assets, and track record of fund managers to put pressure on fund houses.”
A third CEO, who runs a bank-owned AMC, said market forces should prevail.
“If the investor feels his fund is not performing, he should redeem and invest in a performing scheme. Investors should take more responsibility and track investments,” this CEO said, adding that while he agrees with Sebi’s thinking on withdrawing non-performing schemes or merging them with better ones, the regulator shouldn’t get into performance management.
“If Sebi wants to penalize (AMCs) for non-performance, it should also incentivize performance,” he said.
Trapped in schemes
The government official said that the regulator is particularly concerned about investors trapped in large schemes. According to Mint research, eight of the underperforming schemes in the three-year period, 12 in the one-year period, and 15 in the five-year category have at least Rs.1,000 crore of assets.
According to data from financial information provider Capitaline, as on 25 February, some of the largest schemes in terms of assets under management to have underpeformed include Reliance Growth Fund (Rs.5,465.65 crore), which has underperformed its benchmark, the BSE-100 index, by 2.46% over a three-year period.
Birla Sun Life Equity Fund (Rs.737.84 crore) has underpeformed its benchmark BSE-200 index in three years. Birla Sun Life Tax Relief 96 (Rs.1,526.88 crore) underperformed the BSE-200 by 1.5% in a five-year period, and HDFC Index Nifty Fund has underperformed over a three-year period.
Birla Sun Life Asset Management Co. Ltd, HDFC Asset Management Co. Ltd and Reliance Capital Asset Management Ltd declined to comment for the story.
In recent months, Sebi has restrained several AMCs from launching new funds if their existing schemes have consistently underperformed their benchmarks. Applications for new fund launches of a domestic AMC and a foreign bank-owned AMC were recently not cleared on grounds of non-performance of existing schemes.
“The trustees need to be careful now. The fund managers must have some stake if a scheme fails to perform. They can’t just approach Sebi for launching one scheme after another without focusing on performance,” added the government official.
It’s time to find ways to separate the non-performing schemes from performing ones, said Hemant Rustagi, CEO of Wiseinvest Advisors Pvt. Ltd.
“It’s to be seen how the rules are implemented to link the charges with performance of a scheme. If a scheme underperforms on the basis of average returns vis-à-vis its benchmark index during a particular period, the charges can be zero,” Rustagi said. “It can levy charges if its performance is average. For customers who enter a scheme at different points of time, the charges can be levied accordingly.”