Mis-selling of mutual funds will now be punishable
SEBI has notified mis-selling as a fraudulent practice from December 11. The regulator has enumerated the following instances which will be construed as mis-selling:
- Making a false or misleading statement (This means that a distributor cannot assure returns or make unrealistic projections)
- Concealing or omitting material facts of the scheme (This means that a distributor has to disclose the lock-in, expense ratio, scheme portfolio, past performance, etc. of a scheme)
- Concealing the associated risk factors of the scheme ( This could mean that that a distributor has to explain the various risk factors associated with a scheme e.g. the risks associated with a sector fund or the credit quality in a fixed income fund)
- Not taking reasonable care to ensure suitability of the scheme to the buyer (Selling an equity fund to an investor knowing well that the investor will need the money for a child’s wedding in 3 months time is an apt example. However, not all cases are as open and shut as this and suitability will need to defined better).
SEBI has not defined the exact repercussions or punishment which distributors have to face when they are found guilty of mis-selling. Another question which arises is how mis-selling could be identified. Could it solely be based on client’s complaint? There could also be instances of investors making complaints against distributors for wrong reasons, e.g. an investor who has suffered heavy losses in a sector fund may claim the product was mis-sold.
Fund officials are of the view that distributors would now need to document each and every sale by risk-profiling clients. They may have to take the signature of their clients before executing a transaction in order to protect themselves. It appears that with SEBI now terming mis-selling as ‘fraud’, the penalty for distributors is likely to get harsher. “If a distributor sells ETF or sector fund to a retired person it could be an act of mis-selling as per the client’s risk-profile. If investor insists that he/she wants to invest in a sector fund, then distributor could take a signature of the client to document the sale,” says a retail sales head of a public sector fund house.
Fund officials meanwhile are waiting for further details on how these rules would be implemented.
AMFI came out with the first set of norms in the form of best practices and code of conduct force in 2002 under the chairmanship of A P Kurian. For canvassing mutual funds, the requirement to obtain AMFI certification was made mandatory for distributors around the same time. The second set of formal guidelines came in the form of know your distributor (KYD) to further strengthen the registration process of distributors from September 1, 2010.
As per the current rules, if AMFI receives a compliant from investor, it is required to seek an explanation for the concerned violation from the intermediary within three weeks. If it finds the intermediary’s response unsatisfactory, it issues a warning of cancellation of AMFI registration at the first instance. If the intermediary is found violating a second time, AMFI cancels or suspends their license. The distributor has a right to appeal to AMFI. AMCs stop paying commission to distributors whose license has been suspended by AMFI.
