We are used to a culture where giving free advice is common practice. Free advice is not a bad thing, but only if it is restricted to general aspects of life. When it comes to technical aspects, free advice may actually turn out to be a bad thing. We should not forget that lack of technical depth led to many bad decisions. This is the reason, when it comes to career counselling, medical counselling and legal counselling, we believe in fee based professional advice, not free advice. It is the same with fee based financial advice. SEBI’s recent consultation paper on investment advisor seeks to grant financial advice the status of a profession. Isn’t it a good development?
Financial products like mutual funds, stocks, PMSs, AIFs, insurance, etc. are not simple products and that is the reason a financial advisor plays an important role. The problem is that brokers and distributors freely call themselves equity advisor, insurance advisor, mutual fund advisor, wealth advisor, independent financial advisor, and so on. Since an advisor plays an important role, the real question is the use of these professional labels without the necessary certifications and licences.
It’s a good thing to obtain a licence as it certifies you as being authentic, but many distributors are confused. These changes are inevitable and all those who are true advisors, not just product sellers, must embrace these changes in the right spirit.
SEBI has been inviting mutual fund distributors to register themselves as RIAs since January 2013. However, we have only around 500 RIAs against 85,000 mutual fund distributors who freely call themselves investment advisors. Many distributors largely believe that investment advisory is sales. Nothing strange in it therefore if aspects like asset allocation remain limited to tick-mark exercises, which is what is noticeable in almost every second portfolio.
But the real problem for many distributors is that once they obtain an RIA licence, they get into a fiduciary relationship with clients. This is exactly like doctor's profession. A doctor in principle cannot earn commission from the medicines prescribed; similarly, a licensed advisor needs to sacrifice the upfront and the trail commissions received from AMCs to practise advisory lawfully. Currently, commissions drive sales figures. In fact, in a few instances, a few players share some component of commissions with their clients by way of revenue pass backs.
In the backdrop of all these issues, SEBI’s consultation paper is a much needed step. In my view, proposals in the consultation paper will attract a fair competition and create a level playing field.
Fact of the matter is that there is actually a huge difference in the advisory approach of distributors versus RIAs. Things like risk profiling, asset allocation, unbiased fund selection and portfolio review, which are critical aspects of investment advisory, remain restricted to theoretical concepts in the sales approach as the focus is always on the product. On the other hand, an advisory approach truly focuses on the needs of clients. For an advisor, there is no conflict of interest and his way of working revolves around financial planning, maintaining an optimal portfolio and aiming to generate consistent high performance. This is because when your earning depends upon customer fees rather than commissions, you have no option but to provide quality advice.
Most investors do not really know how to distinguish between an advisor and a distributor. Once SEBI segregates both these activities, i.e., fee based and commission based, more distributors will obtain an RIA licence. This will further enhance respect for this profession. The potential for the advisory market in our country is huge; we must therefore view the proposed changes in a positive manner.
Kamal Manocha is the Chief Executive Officer of Bharosa Advisor, a SEBI registered investment advisory firm.
The views expressed in this article are solely of the author and do not necessarily reflect the views of Cafemutual.