The Swarup Committee’s recommendations on the insurance sector, if approved, would breathe fresh air into a system that is choked by a lack of transparency and mis-selling. The commission structure is based on volumes of sales rather than appropriateness.
The panel acknowledges that the retail investoragent interface remains a vital link in the financial services industry. According to the draft, around 70% of mutual fund investors and 90% of insurance buyers go through agents. The communication on a product between an agent and an investor is crucial for a sale. What is the agent’s position here? Whose interest does he have in mind—investor’s, product manufacturer’s or his own? Such conflicts of interest do not bode well for the 20 crore Indian investors.
An important recommendation by the Swarup Committee is that all financial products should be loadfree from April 2011. Though this is going to be difficult and is likely to face a lot of resistance from intermediaries, the proposal promises to bring down costs for investors. The no-load structure has already been implemented in mutual funds with the removal of entry loads. The industry has moved to a fee-based model, where the investor pays the adviser for his services directly.
The fee-based model brings in transparency and empowers the investor to make the financial adviser accountable for his performance. The investor can fix the ‘price’ of the services he gets from the adviser, much as for any other service such as property broking. However, it does presume that the investor is financially literate and well-informed to fix the price.
The fee-based model would move from being ‘transaction-based’ to ‘service-based’. Different submodels would naturally evolve. The basic ‘forms and courier’ model, where the investor chooses the product, would only require the adviser to fill up the form and pick up the cheque. This requires zero value addition from the adviser and would be the cheapest option. As the adviser moves up the value addition chain, he would charge more from the investor. So, a full-fledged financial planning or tax saving exercise would cost more.
If the recommendation on zero commissions goes through, it would result in loss of revenue for advisers, who are mainly focused on the basic courier model. Also, it would goad insurers to invest in distribution channels that can bypass the intermediaries. The online model may also become prominent because it is a cost-effective channel for expanding the reach. The listing (if permitted by regulators) of products with fixed maturity and predictable cash flows on exchanges will help companies reach out to new geographical locations at lower costs. This has been a successful model with exchange traded funds. In the insurance context, product standardisation will be an essential prerequisite for listing.
In my opinion, the fee-based model should work efficiently in India in favour of investors as well as advisers. It will also be interesting to see a performancelinked back-ended payment (say after one year) of commission by the investor for the recommendations made by the adviser. This might put advisers at par with fund managers, thus extracting more value for investors.
We need to give it time and change ourselves to accept the new order. The no-entry load and fee-based model in mutual funds found resistance initially, but was eventually accepted as the aggrieved parties found ways to generate alternate revenues within the new system.
Devendra Nevgi is an investment consultant.
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