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Though you could hold mutual funds (MFs) in demat mode, it was tough to get a distributor or an independent financial adviser (IFA) to help you do that. As of today, not many distributors are interested in offering MFs through stock exchanges and in demat form. But that will change soon.

In a bid to boost the stock exchanges’ MF trading platforms—and by virtue the dematerialization of MF units—the Securities and Exchange Board of India (Sebi) last week allowed distributors and IFAs to directly buy and sell MF units from fund houses using the stock exchange trading platforms on behalf of their clients. Budget 2013 had announced this measure; it’s now set to become a reality. Here’s what it means.

Widening the reach

As against earlier when only Sebi-registered stock brokers were allowed to transact in MFs, Sebi’s latest move allows IFAs to also come on board the stock exchange platforms. “We will offer a limited membership to IFAs so that they can directly use the stock exchange platform just for the purpose for MFs. They won’t be allowed to trade in equities and other segments", says V. Balasubramaniam, chief business officer, BSE Ltd, that has a 60%-plus market share of the total transaction that takes place on India’s two stock exchanges.

Stock brokers who bought and sold shares on any of these terminals automatically became MF distributors, provided they got themselves registered with the Association of Mutual Funds in India (Amfi; the Indian MF industry’s trade body); a mandatory requirement before any distributor gets to sell MFs in India.

But herein lay the exchange platforms’ biggest weakness. While stocks brokers became eligible, IFAs (totalling almost 48,000) got left out. For IFAs to be able to buy and sell MFs on behalf of their customers, they had to become sub-brokers to registered brokers. “This was not really fair on IFAs like me; I would then have had to share my client’s details with the broker. What’s the guarantee that the broker will not poach my client?" said a Mumbai-based distributor on condition of anonymity.

The reality was that IFAs were—and still are—one of the largest sections of MF distributors. By not allowing IFAs to trade on the platforms directly, a significant segment of MF investors got left out. As per data available on BSE and NSE, less than 1% of the industry’s total inflows came through both the stock exchanges put together. Once IFAs come on board, the transaction activity is expected to go up on these platforms.

How will trading happen?

Apart from bringing IFAs into the stock exchange system, Sebi has made another crucial change. IFAs will not handle the pay out and pay in of money as well as units on their investors’ behalf. Here’s what this means.

At present, if you wish to buy or sell MF units through your stock broker, you would give him instructions, typically, over phone. Your broker punches in the order on his screen and initiates the transaction. As the units come into his pool (every broker has a pool where equity shares that he buys on behalf of his clients as well as MF units come in from companies and fund houses before they are disbursed to the respective investors), she needs to ensure that the client also pays up. The money, too, comes into a broker’s pool, which the broker then passes on to the fund house. “There was a risk here. If the units come into a broker’s pool account—which means that the fund house has created the units and therefore payment needs to be made against them—but the client fails to pay up, the broker has to make good this loss", says V. Krishnan, country head (distribution), Integrated Enterprises India Ltd, an MF distributor. Though this risk got mitigated to an extent when Sebi in November 2010 mandated that money should be routed through brokers.

Going forward, and once the stock exchanges come with the modalities, the flow of money and units will happen directly between the investor and the MF. The IFA will just key in the order on the investor’s behalf.

Balasubramaniam says that it will use the National Payments Corp. of India’s infrastructure to help investors make payments.

One of its products, Immediate Payment Service (IMPS), helps people make payments to one another through mobile banking. BSE aims to use IMPS to help MF investors use its trading platform. In other words, and at a minimum, an MF investor who wishes to invest in MFs through a stock exchange platform would most likely be required to have a mobile phone—a smartphone preferably—that supports mobile banking.

Once the IFA punches an order on the website of BSE, a message will go to the investor’s mobile phone asking her to authorize the payment. The investor will then need to authorize the payment, using the IMPS-enabled mobile banking software, to transfer the payment from her bank account directly to BSE. Once the payment is made, BSE will verify, at its end, the investor by linking her mobile number to the demat account that she would have already provided at the time of registration.

Will investors benefit?

MFs are largely bought and sold through distributors and the latter’s benefit plays a big role in your investing experience. So, will distributors benefit? At present, those who aim to become brokers on stock exchanges need to pay about 10 lakh as membership fee to the stock exchange to get a licence to trade on the stock exchanges on behalf of their clients. A further charge of about 10 lakh is required as a guarantee fund and another about 10 lakh as, what is known in stock exchange parlance as, a base minimum capital. Additionally, members need to have a net worth requirement in their own balance sheets of about 30 lakh. BSE’s new scheme for IFAs for its upcoming limited access membership will cost IFAs a mere 15,000. This will be a one-time charge and no annual charges will be levied.

Also, investors must have a demat account to use this facility. If you already have a demat account and invest in equity shares and also, say, non-convertible debentures, investing in MFs in demat mode will consolidate all your investments in a single demat account statement. “It is a very good move because this facilitates paperless transactions. There is no need to fill in application forms", says Manish Gadhvi, zonal manager-Mumbai, NJ Invest Pvt. Ltd, a MF distributor. Ultimately, the success of these platforms will depend on how many distributors come on board and the quality of distributors’ after-sales service.

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