Monday, September 3, 2007

Entry load waiver splits Mutual Funds down the middle

The proposal to waive off entry load on mutual fund schemes is creating a split within the mutual fund (MF) industry. Some fund managers and CEOs feel the move has the potential to boost the insurance business at the cost of Mutual Funds. However, some others feel the move is very important as the waiver will benefit end investors.

At present, the biggest MF distributors happen to be banks, with the top five accounting for 70% of the entire market of equity-related MFs. More than 50% of private banks’ revenues today come from fee-based income, which mainly comprises of selling MF and insurance products.

“If entry load is waived, MF business in toto stands to lose. It will apply brakes on initiatives of fund houses to improve penetration and reach out to the masses. In India, MF as a product is bought and not sold. And that is where the role of a distributor in advising the investors becomes crucial, especially in non-metros,” said ABN Amro Mutual Fund managing director Nikhil Johri. He is scared that if the new rule comes into effect, financial products distributors may prefer selling insurance products as it is more lucrative in terms of commissions.

Selling MFs gives the distributor a commission of 2.5%, but distributors of insurance products, which include unit-linked insurance plans, can charge commissions up to 25 times that of MFs. Presently, there are around 60,000 AMFI-certified MF agents in the country compared with more than a million insurance agents.

Market regulator Sebi wants to waive the entry load since the present structure does not allow investors to avail maximum benefits from MF investments. There are also cases where distributors churn investors’ portfolios by investing into new fund offers on a regular basis to maximise their fees.

“We need to be transparent. The current model does not allow the investor to know how much the distributor is making through commissions. There should be transparency between the investor, the distributor and the MFs. It should be a purely fee-based model. That way the distributor can also ask for higher fees if he believes that he has given better service,” said Benchmark MF executive director Sanjeev Shah.

There is also a school of thought among fund managers that MFs should have the freedom to charge loads the way they want. If a fund manager wants to have a high load fund he should not be stopped from having the same. At the same time, an asset management company, which wants to sell MFs directly, should be allowed to do the same.

“With this move, investors will get a choice. This choice was not available for investors. In India, the high net worth individuals (HNIs) have always managed to get the load factor waived because of their high investments. But with this move, even retail investors can get the benefits that have been the privilege of HNIs,” said Boston Consulting Group director Sanjeev Shah.

The top 10 cities account for 80% of the mutual fund assets, according to a BCG report. The non-urban areas still are heavily invested in savings accounts and MFs find it a challenge to tap this market. “Without the aid of distribution it will be difficult to tap this market. It is expensive for a MF to reach every corner of the country and in a country like India, distributors are doing this for them at a low cost of 2.5%. In other countries these costs is very high,” Mata Securities country head for mutual fund Sameer Kamdar said.

Thus, it becomes important for the industry now to concentrate on the non-urban areas to expand. If the entry load is waived, getting new business from small towns could get tough. Presently, only Quantum MF follows the direct selling model where it does not give distributors commissions. The model is derived from Vanguard MFs, which basically are index investors.

Quantum MF chief investment officer Devendra Nevgi said, “If distributors are saying that they are the ones helping the industry to spread assets geographically, how come 80% of the assets are accounted by the country’s top ten cities. Why are distributors waiting to improve their reach. We launched our equity scheme without the help of the distributor and reached 80 cities. I don’t agree that distributors are needed to spread the industry reach.”

The industry is now going through a new phase of evolution. The outcome will only help the investor if transparency increases.

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