The human being began his journey as a nomadic hunter. At the dawn of civilization, he settled down and turned to farming, changing the destiny of mankind. Today, we see the transformation from hunter to farmer happen in sales.
If we use the “hunter” analogy to depict the sales function, a hunter typically sells his products and moves on to the next transaction. He has little interest in needs or requirements of the customer and is only interested in closing the sale. The hunter needs to locate a new prey frequently. Even the repeat customer is akin to a fresh prey. As the customer relationship is transactional, it cannot be long-term. On the other hand, the farmer-type salesperson is more customer-centric and offers suitable products. Hunting cannot be stable as each day is a new day while farming offers security and stability as the same land can be tilled year after year.
Investment advisory in India, so far, has resembled hunting. Front-ended compensation, especially for products such as unit-linked insurance plans (Ulips), created many hunters. They spread their net wide (the respectable word used is market penetration) and change strategies quickly as they are market savvy. They move to new hunting instrument if the old one gets blunted. They thrive as long as investors (prey) are greedy and want newer products every now and then.
The hunting model is conflict ridden and hence not conducive for investors who save and invest for financial goals. It is unhealthy for an economy as it turns investors into gamblers. Trading prevents investors from capturing market rate of returns and bad experiences result in apathy towards equities as an asset class.
Hunting model is not desirable for investment advisers either as it increases cost of client acquisition. The hunting environment faces challenges in terms of growth in yearly revenues—the direct fallout is mis-selling, disgruntled clients and possible law suits.
To product providers, hunting environment gives false notion of growth due to higher gross sales. But in reality, there are negative or marginally positive net sales. As a corollary, a year of nil entry load has seen mutual fund houses increase their profits on more or less flat growth in assets under management (AUM).
There is a strong case for investment advisory industry to progress from hunting to farming as the latter business model will be more growth-oriented due to alignment of interests with the clients.
To begin with, large organized institutions such as banks or brokers need to seriously rethink their strategy as they are overtly revenue focused. For wealth management business, entire reward system is skewed towards immediate revenue. Shareholders of such entities should ensure that wealth management activities of their companies do not end up killing the golden goose. Hunting could boost short-term revenues and share price but will damage long-term interest. Additionally the reward system for senior executives is also a culprit as it makes them focused on yearly bonuses rather than sustainable growth of the business. Banking by nature resembles farming business as it nurtures depositors to get current account-savings account business and also cultivates relationship with borrowers so that they borrow from the bank and make timely repayments. Surprisingly this does not work when it comes to investment advice as banks turn into hunters.
Independent financial advisers are more likely to convert to farming as it aligns with their long-term economic interest. The sooner they accept this reality, the faster will be their transformation.
Investment advice, too, shall witness a paradigm shift from stock/manager selection to asset class investing, in line with global trends.
The product teams of large advisory houses will eventually have to change their roles and instead of sourcing products, negotiating commissions and creating flavour of the month list, it will have to generate investment solutions. This could either be for specified groups of clients or customized solutions for larger clients.
Wrap accounts should also be introduced in which fee is predominantly AUM-based. Since there are no transaction-based charges, there is no motivation for an adviser to unnecessarily transact. Wrap accounts have seen rapid growth in various markets and have proven themselves as the backbone for investment advisory business.
It is necessary that the investment advisory profession goes through this transition, just like humans did for their survival and prosperity thousands of years ago.
Rajan Mehta is executive director, Benchmark Asset Management Co. Pvt. Ltd.