Sudhakar Ramasubramanian, Director, Financial Intermediaries Association of India (FIAI) talks to Cafemutual about the headwinds facing the industry.
How have direct plans impacted distributors? What kind of value addition are distributors providing to retain clients?
I think entry load ban and direct plans have definitely hurt the industry. Distributors who were catering to institutions have been hit badly. Clients agree that distributors provide good advice but at the same time they agree that they can’t pay fee.
On the retail front, we have a bigger concern. Distributors recommend schemes after doing risk profiling of clients. If retail clients go direct, AMCs might not be able to do risk profiling. Customer grievances will increase as more people go direct. We should not have a situation where retail clients are being sold products directly by AMCs which are not suitable to them. Suitability analysis is a must for any client before he buys direct.
In countries like Australia, after a decade of direct selling by product providers, consumers realised that they were not made aware of fine print in products and have now lost faith altogether. Let's not repeat this mistake. The role of distributors is invaluable and there needs to be a greater appreciation of that.
The regulator is concerned with mis-selling and has taken a number to steps to tackle this issue. Has the situation improved?
The regulator is rightly concerned about mis-selling because this is a fiduciary business. SEBI has taken lot of steps to address this issue. We are not selling consumer durable products. People trust us with their money. So, good selling practices are needed in this industry. We have implemented the measures suggested by SEBI and it has yielded the desired results. Majority of complaints received by AMCs currently are related to operational errors. The number of mis-selling complaints have dropped further.
Our investor survey, which was conducted last year before the market rally, showed that more than 85% investors are happy with their distributors and their investments. Mis-selling is tantamount to fraud. In an industry which employs thousands of people, it is inevitable to see few cases of mis-selling. What we need is a strong grievance redressal system.
What according to you should be done to redress mis-selling grievances?
We need to move to case by case approach. For instance, SEBI has mandated NSE and BSE to have investor grievance forums. This model is working well. There, the complaints have dropped from 0.16% to 0.1% of active investors. These complaints were related to unauthorized trades, which is sort of a mis-selling. We can replicate such a model in the MF industry. We need a strong investor grievance redressal mechanism to effectively tackle the cases of mis-selling.
We always talk about mis-selling to clients. But there is also misdealing between distributor and AMCs. Both distributors and investors grievances need to be equally addressed. 40-50% business comes from small IFAs and the number is growing. These distributors have no forum where their grievances can be addressed. We would like to see some regulation in this front.
Very often, mis-selling is attributed to churn in this industry. Our (FIAI’s) view is that portfolio restructuring in the mutual fund industry is normal and at times necessary. This is because there are certain schemes which will perform well and others won’t. It is investors right to shift from a bad performing fund to a good performing fund. The situation is similar in many other markets, including US. Investors tend to invest in better performing funds. Thus, fund performance is linked to re-asset allocation more than mis-selling. The second reason for restructuring can be liquidity requirement. So there are a number of reasons for churn. This can’t be attributed to only mis-selling. It is a market phenomenon.
Investor grievances, especially related to mis-selling, go up when markets are doing badly. Distributors and mutual funds can win the trust of investors only when we are shown in a good light.
What are your views on the reported mis-selling in closed end funds?
The distributors did not create high commission structures in closed end funds. If you get 0.50 – 1% commission on a regular product you will tell about these products to your existing clients. When you are getting a slightly higher commission, you will take extra efforts and reach out to new customers. It is a natural economic behavior. At FIAI, we don’t understand why the commissions are being questioned so frequently. Can we ask a Shopper Stop or a similar department store to collect fee directly from customers and without any margin from manufacturers? Can we ask the same thing to a telecom franchise? If commissions are not paid by manufacturers, many of these franchises will shut down. How is any distributor different from a supermarket, in this respect? The only difference in our industry is that we have to ensure that we sell the right product to the right customer because we have a fiduciary responsibility.
What are your views on the impending changes that will be introduced by SEBI regarding upfront commissions?
Regulation is always good to set some boundary conditions for the industry to operate. We should put controls so that mis-selling doesn’t happen. But the market should be free within the stipulated regulatory limits. This way, both distributors and AMCs will grow. We believe that the distributors should be free to decide on their commission structures with the AMCs depending on their business model. Some may wish to have upfront income and some may choose all trail models. But if commissions are reduced further, it would be difficult to attract more distributors in the industry. Also, it can make existing distributors to shift their focus from mutual funds to other products like insurance.
What the bank fixed deposit industry collects in one year is the size of the entire mutual fund industry. Mutual fund gross sales have come down from 3% of GDP in 2007-08 to 0.50% in 2013-14 of GDP. Any disturbance in commissions will reduce the inflows further. In the short run, it will put more money in the hands of fund houses. However, in the long run it will only destroy their own growth and profitability further. SEBI has done very well to regulate the industry and we believe that it will keep the distributor’s interest in its mind when suggesting changes.
The remuneration for mutual fund distributors is already very low. For a MF distributor to earn Rs. 10,000 he/she has to have a book size of Rs. 1.20 crore. (Under a full trail model). At a ticket size of Rs. 20,000 reaching out to 600 clients or let’s say 200 families a month is a tall order. This is extremely onerous for a new distributor who wishes to come into this business.
There was a media report recently which talked about reducing the total expense ratio of mutual funds. Do you think the current TER charged by AMCs is high?
We believe the expense ratio is not high. We have not seen any investors telling us that they don’t want to invest in MFs because the TER is high. AMCs are doing a specialized job for which they need to be properly incentivized. There are countries where we have much higher entry loads and expense ratios, whereas India has zero entry load. The penetration of MFs is low not because of expense ratio or entry load. To give an example, in US the government has allowed private institutions to manage pension money under 401k plans. In US, 67% of mutual fund investments come through 401k and IRA plans. Whether the markets are doing good or not, there is a constant pull towards mutual funds and new money continues to come in. In a market like US, you can have control on costs. The situation in India is different, where the penetration is still very low. We need various measures to develop and grow the industry rather than reducing commissions further.
New distributors are certainly required to grow the industry for increased employment opportunities and to achieve the Government's agenda of financial inclusion for channelizing savings into investments.
Do you think new breed of distributors should bring some capital in their business?
Yes, they should enter this industry with some capital. IFAs can invest in this business. However, they will look at their return on investments. The gestation period has gone up now. It is not about the intention to invest. No entrepreneur would like to invest in this business if the returns are not good. If commissions are reduced in this environment, distributors who have just started, will also shift to selling other products.
Sudhakar is the Managing Director of Aditya Birla Money.
