Ajit Dayal, Director at Quantum Advisors Pvt. Ltd and Quantum AMC, wrote this piece for the India Markets Observer.
“Assets under Management” or AuM said as one word is “OM” - the sound of the infinite, of creation. Yet for many investors AuM represented ruthless decimation and destruction.
The history of the distribution channels is littered with the corpses of some 10 million fund
investors who have shut down/deactivated their fund accounts between 2008 and 2014. When India needed household savings to be channeled into “productive” investments, the distrust in the distribution-led financial system saw investors pile over 90% of their annual savings into bank accounts, real estate and gold.
The recent “revival” of flows into equity mutual funds is either part of a well-thought out
strategy to ensure (rightfully so!) that investors have more exposure to equity or is another
opportunistic, commission-induced allocation which will cause further ruin to investors and accentuate the distrust. With a reported 51 closed-end funds launched last year – many of which were innovative ways for AMCs to pay their distributors fees to gather money – chances are that this will end badly for investors.
When SEBI chairman Bhave fought this stranglehold that distributors have over a very pliant mutual fund industry basking on the ramping up of growth in AUM, he was denied an extension of his term. But there may be hope in the new Ram Rajya. With elements within the government’s supporters so focused on reconverting the converted via a ghar wapsi programme, the time may have come to force the distribution channels – and the CEOs of the AMCs the distributors’ control - to start focusing on wat is best for investors.
The Ministry of Finance set up a 9-member Committee on November 20, 2014 to study the incentives offered to the distribution channels for selling various financial products. The aim of the committee is to suggest solutions to ensure a level playing field of incentive structures across products and prevent mis-selling.
Here are 3 ways how this industry can resonate with the interests of their clients and adopt the spiritual equivalent of the eternal OM on their journey back to “The Chosen Path” as they reconvert to being sevaks serving investors:
- Commissions paid by the manufacturers of mutual funds, insurance products, postal savings, or any financial product must reveal clearly what is being paid to the seller of the product:
“This is to inform you that x% commission is paid the seller of this product and that the seller of this product will receive another x% commission each year for the next x years. Please note that this is paid by you from your investments. In addition to this we, as the manufacturer of the financial product, are paying the seller of this product x% commission upfront and will also pay x% commission to the seller of the product for the next x years from our own pocket. So, for all the money you and I are paying the distributor, we hope you are getting good advice!”
- Create a web site which lists every distributor and manufacturer of financial product by name (this data is already available) and allows individuals to post their praises and complaints against the distributor.
The distributor is free to respond to the complaints. The travel industry uses this to guide people on hotels, restaurants, airlines, and destinations. There is software which “trolls” the comments and can classify “fictitious” comments from the more “genuine” ones, so defamation – or excessive praise – is eliminated.
- Restating the regulatory and industry objectives.
The benchmark of success is driven by numbers such as AuM, the number of investors from small towns, and the net worth of an AMC. These data points are devoid of any qualitative aspect. The quantitative parameters drive bad decisions which affect the quality and, eventually, hurt these quantitative numbers. Regulators need to map out success based on relevant parameters.
For example, SEBI has this view that their mandate is to allow “rich” mutual fund houses to manage a mutual fund. In actuality that should invite the wrath of the Competition Commission, SEBI has persistently raised the minimum net worth to qualify for an AMC license from Rs 3 crore in 1993 to Rs 50 crore in 2014.
SEBI forgets that the license they have granted says “Asset Management Company”, not
“Asset Gathering Company”. AMCs don’t need Rs 50 crore of net worth, but distributor-driven asset gathering companies which incentivise distributors may need a lot of capital.
The NSE is the poster-boy of reforms and one of the most efficient stock exchanges in the world. A great achievement, but the NSE ended up equipping their broking members with a machine gun to eliminate more investors’ wealth with more useless, frequent trading as opposed to teaching a generation of investors to invest for the long term. An interesting point of relevance to investors in the mutual fund industry is the contrast between the success of the stock exchanges in reducing transaction costs to buy/ sell shares by 95% but a total failure to make any dent in the transaction costs of mutual funds despite the existence of such engines on the NSE and the BSE.
Many financial advisers/distributors focus on what’s good for the customer. Quantum Long Term Equity Fund has approximately 15% of its flows coming in from distribution channels even though we pay no commission. We will happily do so provided they are disclosed to investors.
Sadly, the number of these customer-focused feisty individuals and groups is likely to remain small. The power of the large financial firms – and the lack of regulatory understanding and support – will never let them flourish.
It’s now up to the Committee to fully understand the problem and recommend solutions which give the serious players (not the big ones!) the opportunity to flourish.
Here’s hoping this ghar wapsi programme works!
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