Mutual fund operations are still in the dark ages
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The rules of the game in mutual funds are changing quicker than ever. The Securities and Exchange Board of India (Sebi) recently announced a set of changes that make it easier to invest in mutual funds. The regulator has permitted people to use e-wallets to invest, and has allowed instant redemptions up to Rs50,000 from liquid funds into bank accounts.
Yet, what Sebi seems to have missed is that the existing infrastructure for settlement and confirmation of mutual fund investments is almost totally geared towards offline, paper-based transactions. The unfortunate image that comes to mind is that of a rocket being carried on a bullock-cart. Much like the advent of dematerialization in the early 2000s, the entire settlement and trade confirmation system needs a reboot so that the investor base can grow to many times its current size.
For instance, the four registrar and transfer agents (RTAs), which settle and confirm all the mutual fund transactions, use woefully out-of-date file structures and formats to exchange transaction data with intermediaries—distributors and registered investment advisers.
• The RTAs exchange data only in the outdated dBase DBF format, first introduced in the early 1980s and which was last updated in the early 1990s. It is virtually impossible to get any technical support for the dBase format, more than 20 years after it went obsolete.
• Images of customer’s agreements, forms and their signatures are shared with RTAs in the uncompressed TIFF format images (last updated in 1992), which have massive file sizes and are barely used anywhere in the world (hint to RTAs: use PDFs, please).
• Almost all non-financial transaction requests (such as change of nominee or bank) require physical documents to be lodged at the RTA’s offices, when there are far more efficient, digital ways of exchanging information.
When we built our online investment platform, we were shocked to see that virtually no API (application program interface) was used by the industry for transaction feeds. Almost every self-respecting Web service in the world today uses APIs to give programmatic access to its data so that the information can be exchanged in a real-time, structured manner.
Another concern is the handling of transactions when volumes spike. Most RTAs will confirm transactions only after several back-and-forth communications and ‘sighting’ of the funds. But exchanges such as the National Stock Exchange had pioneered the concept of real-time payment confirmations years ago. Is that concept so hard to implement in the mutual funds universe? Any surge in transactions almost inevitably means that there are delays in transaction confirmations—automation could solve so many of these problems relatively easily.
The many regulations around the Know Your Customer (KYC) process are now overlapping, confusing and badly designed. For instance, a brand new investor is now required to perform two KYC validations before she can invest in a mutual fund—one with the new central KYC authority—Central Registry of Securitisation Asset Reconstruction and Security Interest (Cersai)—and another with one of the five Sebi-approved KYC Registration Agencies (KRAs). This is because a customer still needs a Permanent Account Number (PAN) and her KYC has to be approved by one of the five KRAs before any mutual fund can open an investment folio. And most intermediaries complain that Cersai takes 3-4 days to merely issue an c-KYC number (KIN) to a new customer.
Then there’s the investor’s bank account. Some mutual funds and intermediaries validate ownership of bank accounts using a small transfer of Re1 to the customer’s bank account using Immediate Payment Service (IMPS). Customers find this more convenient than uploading a copy of their blank cancelled cheque to validate ownership of the bank account. This is a great example of using technology to speed-up processes and improve the customer on-boarding experience. One hopes that this method would soon be embraced by all fund houses. And yet, when we recently checked with Computer Age Management Services Pvt. Ltd (CAMS) and Karvy Computershare Pvt Ltd (Karvy), the two largest RTAs in the country, they were unsure about how an investor’s ownership of a bank account could be validated in the absence of a blank cancelled cheque.
The investor base can only grow when advisers spend less time on operational issues and more on servicing, advising and hand-holding customers to help them meet their investment goals. The market infrastructure and technology stack used by mutual funds is woefully out of date and desperately needs a reboot.
These changes would lead to more participation in the markets and many more product innovations, just like the introduction of demat accounts did for the stock market in the early 2000s. Rather than resist change, the mutual fund industry, especially its infrastructure providers, should embrace technology, so that Sebi’s innovations can soon lead to mutual funds for all.
Kunal Bajaj is founder and chief executive officer of Clearfunds.com, a Sebi-registered online investment adviser.