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In whose interest?

Suresh Sadagopan     October 9, 2010

Sebi has introduced several regulations recently to protect the interests of mutual fund (MF) investors. These include disallowing amortisation of marketing expenses for new fund offers (NFO), removal of entry loads for direct investment and, subsequently, complete abolition of entry loads. In the latest move, the markets regulator has asked MFs not to dip into exit/entry load accounts to pay the distributors upfront. As a result, the profit margins of the MF industry are shrinking and distributors have moved to areas like debt products. Investors find themselves in a vacuum with no one to service them. Even today, 90 per cent of funds are bought through distributors.

The Fallacy
The justification for the entry load removal was that distributors were pocketing the charges and not advising clients. Distributors received two per cent of the sum invested as transactional fee, which covered incidental expenses, and if they offered advice, the charges were higher. Sadly, the distribution charge was seen as advisory fee. Most investors would be happy to pay the distributor for a complete bouquet of services and some have even questioned the new, convoluted method. The problem is that though investors understand it is the same charge, it hurts to write another cheque. This is where the distributors have been hit.

What the ban has done

  • Investors are not willing to pay separate advisory fees
  • Distributors are no longer interested in promoting MFs and have shifted to selling the more lucrative debt products and insurance
  • While the sale of MF products has fallen, investors are sold products often unsuitable to them
  • The MF industry's profi t margins are shrinking. The equity AUM fell between August 2009 and July 2010
It becomes a fertile ground for haggling on fees - some investors don't want to pay and threaten to go direct, while others want to pay a fraction of the charge. Investors are not mature enough to write a cheque and distributors aren't mature enough to charge for their services. So, many distributors have given up. Why would they want to promote funds when debt products give them one per cent in commissions? SEBI should have formulated a training programme for distributors instead of foisting the noentry load regime without giving them time to adjust.

The Facts
With no distributors to promote their products, only the top 10 MFs are estimated to remain profitable. The equity assets under management (AUM) fell between August 2009 and July 2010. MFs are a low-risk route for lay investors to participate in the India growth story but direct investment is riskier and not for everyone. Also, the money stays invested for a longer period compared to stocks, where day trading and short-term trading are rampant. Regulations that strangle the industry are hardly in investors' interests.

The writer is a Certified Financial Planner

Courtesy: Money Today 

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