Aniruddha Chowdhury/Mint
Aniruddha Chowdhury/Mint

Sebi says distributors cannot advise

Bank branches will continue to be distributors through the corporate agency route. Sebi is acting in concert with the Reserve Bank of India, which had, in a 26 April 2016 circular, asked banks to do the same thing.

Is your wealth adviser actually an adviser or just a distributor? The answer to that question is important for your long-term financial health. Don’t think it is important? Then do you think chemists should put out boards proclaiming that they are doctors? In our heads, the difference between a doctor and a chemist is very clear. A chemist sells medicines that we ask for over the counter, either on the basis of a prescription or over-the-counter drugs that are available without the need for a prescription. Who writes the prescription? The doctor. The doctor is much better qualified as compared to a chemist, and has spent years learning and then practicing the profession. When you present your medical problems to the doctor, she will ask some questions, may conduct some tests and then come up with a diagnosis that is specific to your medical condition.

A financial adviser should be seen with the same lens. He is a professional who is qualified, has spent time in learning the profession, is responsible for his diagnosis of the financial problems of his client and has the ability to prescribe a suitable set of financial products to the client.

Read about what happens if you don’t know the difference between distributors who act like advisers here: http://bit.ly/2ddXjIT.

The Indian retail financial products market has traditionally been a sales-push, agent-driven market where commission-bearing products were sold by distributors who doubled up as advisers. With the maturing of both supply and demand, the need to separate the two functions has become clearer with every passing year. The periodic blowouts—when commissions drive sales and cause investors to be advised products that do not work for them, but for the agent—has added to the regulatory drive to make the markets more accountable. This is a global move and not just in India.

The Securities and Exchange Board of India (Sebi), in 2013, began this process by registering advisers who would not be compensated by the mutual fund firms, but by the clients—much like what we pay to the doctor as consultation fees. But the rules left some categories of people out of the ambit of these rules. One of these were the independent financial advisers (IFAs), or mutual fund distributors, who, said Sebi, were ‘advising’ clients because it was ‘contingent’ to the sale of the product.

So the market then had two sets of advisers, one that was fully responsible (Sebi-registered financial advisers who are fiduciaries—the gold standard in consumer protection as it makes the adviser responsible for the advice he gives his client), and the other (IFAs) had a lower standard of accountability. To be sure, some IFAs have done well. But there are many who have not. Unfortunately for the honest guys, rules are made to deter the bad guys.

The exemption caused reluctance among the IFAs to turn themselves into registered advisers. Three years after Sebi began the process, there are just 512 registered advisers, while there are 10,000 active IFAs out of a registered population of about 70,000. It also led to claims of being multi-product wealth managers by individuals or firms who were just holding a distributor licence. My colleague Kayezad E. Adajania wrote about some of these firms and their tall claims in this story: http://bit.ly/2dCTfm2. To remove the ambiguity between distributors and advisers, Sebi in a 7 October 2016 consultation paper http://bit.ly/2dExDby, is proposing that mutual fund distributors cannot offer advice and call themselves ‘adviser’ or ‘wealth manager’. If they do, they need to register under the adviser regulations and then be held accountable for their advice. Sebi is proposing to have a 3-year glide path for the current crop of distributors to morph into advisers. Those distributors who shift to the advisory model will continue to get the trail commission for products already sold. Banks, which were earlier allowed to set up a department that would offer advice, will now have to set up a subsidiary or use an existing one to advise their customers.

Bank branches will continue to be distributors through the corporate agency route. Sebi is acting in concert with the Reserve Bank of India, which had, in a 26 April 2016 circular, asked banks to do the same thing.

Sebi’s move removes a major cause of confusion in the market. I think you cannot sell a financial product without advice being embedded into the sales process. The pure sell-only channel could be the do-it-yourself online road. Three years is good enough time for IFAs to transform their business and move to a higher professional standard. Sebi will need to think harder to solve the bank mis-selling problem. As long as bank managers are not held accountable for the advice they give while selling funds, the churning and mis-selling will continue. Three years to move the advisory to a subsidiary is a long time for a bank. Sebi should reduce this to a year at most.

Sebi also wants robo-advisors to register under the adviser regulations and they will have additional requirements of disclosure and audit, where their algorithms will be under Sebi audit. What this means is that if there is an algorithm that interprets ‘long term’ as a 1-year period and recommends an equity product, it will be liable to action. Sebi, hopefully, will have some suitability metrics in place to evaluate the output of the algorithms.

It’s a well-explained and argued consultation paper. Here’s hoping that other regulators read and learn—the market desperately needs consistency between the financial sector regulators on some basic issues such as ‘who is an adviser and who is not’.

Monika Halan works in the area of consumer protection in finance. She is consulting editor Mint, consultant NIPFP, member of the Financial Redress Agency Task Force and on the board of FPSB India. She can be reached at monika.h@livemint.com.

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