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Is our resilience costing us our business?

Amit Bivalkar, Sapient Wealth Advisors, Pune

2nd April 2016

Unlike other financial intermediaries, Amit says MF distributors have been resilient in the face of huge challenges and have successfully helped the fund industry grow to its present level - a level which now seems good enough for the regulator to think of dispensing with distributors in favour of direct. What would have happened if the IFA channel was not as resilient as it has made itself? "Is our resilience costing us our business", Amit asks.

MFs are not "push" products - they are actually "advice" products and will always remain so, as they directly transfer market risk to investors, unlike most other financial instruments that an average retail investor invests in.

Who now is going to serve retail investors? Amit looks at the options available without IFAs, and the picture certainly doesn't look good for the investor.

Amit concludes with a telling statement: Silence is golden, but not this time.

Since 2009, if there is one character trait that has defined mutual fund distributors, its resilience. As I look back over the period of 2009 to date, I have to wonder whether it is our very resilience that is costing us our business.

Commissions are a function of complexity of the product

All Financial products like GOI Tax free bonds, Postal Savings, Insurance etc. are sold through intermediaries. These products are fill it shut it forget it products (Defined benefits) and commissions are paid on the same. In the case of some products like PPF and other small savings schemes where the Government believed there is sufficient "pull" after decades of distributor "push" which created the market, they withdrew commissions and asked investors to come direct.When you don't employ distributors to create a market, however good your product is, it fails - NPS is a recent example of a "direct" experiment gone wrong.

Every financial product that uses distributors pays out a combination of upfront commissions and trail to compensate them for their efforts. Simple products which require less time and expertise pay out less commissions and vice versa.

MFs are not "push" products - they are "advice" products

Mutual Funds are a lot more challenging to sell and a whole lot more complex for investors to comprehend and buy. There is no guaranteed or assured return. Even in a debt fund, interest rate risk, credit risk, liquidity risk all have to be taken care of along with the maturity of the client and the product and then the product has to be suggested. People say mutual funds are a "push" product - that actually is not the correct definition. Mutual funds are "advice" products and will remain so, as they directly transfer market risk to the investor, unlike most other financial products that an average Indian saver invests in. The recent credit issues that impacted debt funds underline this. It is this context that the desire to push investors towards direct is really baffling.

What if we weren't resilient to change?

When I look back at the sequence of regulatory change that has impacted mutual fund distribution since 2009, I can't help but think - what if we were not so resilient? Back in 2009, the MF industry was around Rs. 5 lakh crores and struggling big time in terms of consumer reach as well as business profitability. Since 2009, as more and more regulations came in, the number of distributors shrank. But those who remained, became tougher, stronger and even more determined to succeed. Since then to now, the industry AuM has almost tripled, investor count has ballooned, and even though the number of active ARNs has decreased, distributors - and IFA segment in particular, has retained its market share through the years. IFAs kept up the task of promoting mutual funds among retail investors, adapted to "delayed gratification" as their revenue model while all other products provided "instant gratification" and rationalized to themselves that their earnings are now aligned with what their investors will experience in the products they sold.

What if we were not so resilient? What if the IFA community had vanished completely from MF distribution? What would be the retail penetration of the MF industry? Would the regulator believe that the industry now has sufficient momentum to enable it to go direct and thrive? Has our resilience cost us our business?

We were sold the story of delayed gratification (trail), and we bought it. When the time comes for our delayed gratification (which is when clients stay invested and make money), we will now have commission disclosures that put a spotlight on this, in an effort to squeeze it. A sapling that an IFA helped an investor plant and nurtured over the years, grows into a fruit bearing tree. And then the investor is induced to part ways with the IFA, when the tree starts bearing fruit. There is a very clear effort to induce investors to go direct. Some will. And I suspect nobody will benefit from it - least of all the investor.

Staying the course in DIY is a challenge

As I mentioned, any product that transfers market risk to an investor, will always remain an "advised" product. Knowing which product is suitable for you is itself a complex job. Then, staying on course to achieve your goal is an even bigger ask. If you decide to fly solo, and you take all the necessary flying courses, you can and will take off successfully from Delhi airport. But, during your journey to Mumbai, just a 15 degree deviation from your course will land you in Karachi!

Lower commissions = investor protection. Really?

People say that distribution commissions must reduce. They give examples of the stock broking business, which went from 2.5% commission to 0.05% commission. This is given as an example of investor protection, as investors are benefiting from lower commissions. Sure, commissions have reduced. But what happened to the investors? Retail holding in stocks has declined from a whopping 28 percent to 18 percent. Low brokerages have made brokers focus more and more on volumes to compensate for lower margins. The result: (1) retail investors in the market vanished as no broker wants to serve a small stock investor at these low margins, and (2) the HNI investor has now been induced to become more of a trader than an investor. Can the regulator really be satisfied with this turn of events?

Concern for investor is correct. Overdoing it isn't.

The concern for the investor from the regulatory side is correct however if we overdo it, we will kill the industry. As an advisor I want to help the people who need it most; the working class and middle class that lack any real understanding of money and finance. (Mind you the majority of the Financial Advisory industry ignores these people) These are the people who make money but have no clue what to do with it. These people don't even have emergency funds. They don't know what a stock is.

Who finally serves the retail investor best?

I'm an independent financial advisor (IFA), unbeholden to any particular financial institution. This allows me to set client goals and objectives without having to force proprietary products down my client's throat, and without any pressure from my head office to meet sales targets on a week-on-week basis. As more unfair and unwarranted regulatory pressure comes on this business, it is the IFA who will exit. Think of a situation where we have only banks involved in fund distribution. Wow! How's that for investor protection!

Let's be honest: for someone who doesn't know anything about stocks or investing, mutual funds can be a good starting point; as many people do not know how to do due diligence on any particular stock and could end up losing their life savings in one of those penny stocks that we all get emails about.If you really want to protect this investor, we need to ask a simple question - who is likely to best protect a novice investor's interests? The investor himself? A bank RM who has no stake in the investor but a lot of stake in his weekly performance numbers? A mutual fund direct salesman who is not supposed to advice this novice investor holistically, but simply get the deal done before another AMC direct salesman turns up? Or an RIA who may offer great advice, but may simply not be interested in serving this investor, only because the investor hesitates to pay him his fair remuneration?Oh of course, we have e-commerce platforms! They will step in to fill any void, won't they? The same Flipkart, which is today spending crores to convince people that "Flipkatmatlabbilkulpucca" - "please believe us - Flipkart will not sell you spurious goods" - that same Flipkart is going to sell mutual funds to a novice investor!

This novice investor is best served by the same IFA who has been sold and who bought into the notion of delayed gratification. The same resilient chap who adapted to change while all his counterparts in other products like insurance were never asked to adapt.

Is our resilience finally going to cost us our business? Silence is Golden people say - but not this time I guess.

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