Will you pay a fee for Mutual Funds? - Simple Equation

Will you pay a fee for Mutual Funds?

Harish Rao - Wednesday, July 29, 2009 9:23 PM

Winds of change are blowing at hurricane speed in the Mutual Fund industry.

From Aug 1, 2009, investors would not have to pay any entry load in any Mutual Fund Scheme. SEBI has recommended that instead, they - the investor - would have to compensate their financial advisor a suitable amount for advisory services.  This means that for every Rs. 1000 given to a MF scheme, the entire Rs. 1000 is available for investment.

(Do a simple exercise, look at all your investments, Mutual funds, Insurance, Debentures etc, and see which one has snipped the biggest hole as initial charges. Some may have collected Rs. 1000, but invested just Rs. 600).

This is a very investor friendly measure, and ensures the highest level of investment efficiency – unmatched by most products. For this single reason, Mutual Funds rank as one of the greatest financial products in India today. 

But how does the advisor get compensated ?

In two ways. He continues to get a commission from the MF house (or AMC as they are called) and more importantly, he is expected to be reasonably remunerated by you, the investor. The commission stands reduced after abolishing loads and thus investor fees are expected to make good the deficit.  

Why should you pay ?

There Is No Such Thing As a Free Lunch. Please remember this. Advisors - Independent, Banker or Broker - provide a service, much like a Doctor, Chartered Accountant or a Tutor. Your fee will determine the sustainability of your relationship with a good advisor.  Advisors on their part also know that there is an obligation to provide the finest advice and most responsive service to a good fee paying investor. 

My recommendation

Pay fees. Be fair. Be generous. Treat your advisor as you would your cardiac surgeon. With utmost respect. Nurture the relationship. You will benefit. But settle for nothing less than 100% Integrity and Transparency. 99% honesty will just not do. Make that clear. If you don’t do it on Aug 1, 2009, chances are that you will not do it on Aug 1, 2019 either. In my experience, the best advisors (as measured by helping their clients achieve their objectives) are those that have Integrity, Maturity and Customer Orientation. Not necessarily the ones with smarter jargon, slicker appearance and complex products. In short, those that have YOUR target in mind, not THEIRS. Be careful, very careful of those that justify financial instruments that embed a high front-end fee. Always, insist on disclosure of ALL charges. If you are convinced about product suitability despite high charges, go ahead. It’s your money. Not mine. 

 

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34 Comment

From sandeep

July 31, 2009 7:38 PM
Harish That is a good observation. But it is my understanding that SEBI is nothing but a toothless tiger. And just to keep themselves relevant, they keep issuing these diktats. I remember sometime back the same agency had come up with concept of MIN. But it was later scrapped or that no one knows what happened to it. As a rookie investor I also paid huge admin charges , but that was in 1990's. That money was lost. the industry does not run only on entry loads, there are other methods also. Second SEBI has banned entry loads, but what about exit loads. What about annual administrative charges or whatever they choose to call it. Do you have any information on this.

From Harish Rao

August 1, 2009 8:19 AM
Sandeep : I suspect there will be exit loads in equity schemes. This will substantially fund some upfront brokerage. 'Fund' is the wrong word as the payment is made upfront and the 'fund' may or maynot accrue to the scheme. As for SEBI being a toothless tiger, I am still happy it is a Tiger. There is another regulator that could have been a tiger, but turned out to be a, well...

From Promila

August 3, 2009 10:17 PM
You are absolutely right. But you are talking about a very ideal situation. The difficulty is on the side of the investor who is using our advice like weather forecast and may find very hard to pay us. The onus of charging for the advosory services is on us. but i am more in pain to fail to understand the SEBI's decision to hammer Mutual Funds in the first place to put its act together. Where as there are many other product providers who are much more costly and generate less return or are equally/more volatile in terms of return-like stock broking. They have not been targeted. May be there are some pressures or some arm twisting by big competitors who had less investments because investor chose mutual Fund Schemes as they were giving more return. I respect the regulator who has to make this market an even field to play by all the participants. But this decision is most certainly is not been the fair one - neither for a advisor or for the investor. Some more strigent steps like additional qualifications, stricter regulations could had been a better idea than what has been done now. Our journey has become a steep uphill and we have no option but to climb. May GOD bless these rule makers.

From sandeep

August 4, 2009 12:11 AM
What used to happen was like this. U walk into a neighbourhood investment shop - ask for advise, the person would get form filled highlighting the scheme which are "Best" (for himself or for investor) and then the investor would keep plugging away monthly SIP, etc - not knowing where the money is going. This happened with me. Now the hope is that with entry load gone, how will advisors recommend which MF. Again, the MF would provide some amount to advisors based on amount recived. In PPF we used to get 0.75 % as commission (this is not an entry load). So typically the total commission is around 1.5 %. Add 8 % of interest , so govt used to give out net 9.5% excluding tax benefit - otherwise it would reach around 10.25 %. Where on earth can u get this kind of return .... Bottom line is for such schemes to be profitable - govt had to earn more than 15 %- just to break even. Same is true with the MF.

From Harish Rao

August 4, 2009 10:27 PM
@Promila : You are right. There should have been a level playing field. But SEBI cannot ensure that. Some investments have better tax benefits, courtesy MoF and some have lax regulations, courtesy IRDA. When compared to other investments, it certainly is not fair. I agree. @Sandeep : Quality of advice for MF is going to improve. I am certain.

From Anil

August 5, 2009 9:04 AM
Harish, good article. My worry is also about the future of independent financial advisors (IFA) who survive on advising clients with Systematic investment plans (SIP). It becomes extremely difficult for an investor to pay his advisor a fee for an investment which is likely to accumulate over the next 1 or 2 years. For eg; If he plans an SIP of Rs.10,000 per month over the next 2 years, in an ideal situation, the advisor would have made, maybe 2%, every month over the next 2 years. In the present situation, it becomes cumbersome for the advisor to recover the advisory fee month on month from this investor. This may ultimately discourage advisors to recommend SIP's which is indeed a good accumulation tool. Your thoughts pls.

From Rajesh

August 5, 2009 9:06 AM
Is indian investor mature enough to differentiate between product and services. Consumers never know what margin they are paying for the television they are buying. distributors or retailers margins are part of the MRP. Consumers don't issue a seperate cheque for the margin of the retailer or distributor. Indian consumer is used to buying products where they percieve that seller is not making any money. In such scenario what percentage of investors will be ready to issue a seperate cheque for advisors.

From Swarup

August 5, 2009 9:39 AM
Harish, Well articulated. I completely agree on the 2009 v/s the 20019 part, you have got it bang on!The fact is, we have had a free ride till date as investors(some have got paid for investing too!). This could be one of the reason why most of us have not accumulated that "elusive" wealth we have secretly desired(no free lunches!!!). The time has come when both, the investor as well as the advisor, need to pull up their socks. The Indian has been a value for money customer and will pay only if he gets a value proposition. I am banking on the superior Indian brain which wil get the advisors to deliver this proposition over a period of time. Interesting times...... (The views as you know are purely personal!)

From Prashant Rana

August 5, 2009 9:54 AM
The exit loads have been capped at 1% by SEBI and if their is any extra percentage over that 1% the same will get invested in the scheme and will not go into the hands of the AMC. Also the administration charges etc are already capped and the NAV is calculated after deducting those expenses. When the distributor gets brokerage from the AMC they get it less the Service Tax, but now how does one deduct the Service Tax and how does he pay. Above all if the investor pays in cash how does one account for it. As the distributor might say that the investor never paid any fees. Above all the distributors might start charging a fixed fees like 1000 bucks for a 50000 rupees portfolio, in that case the investor will feel that he is paying quite a lot of money and hence might not opt for it and as pointed out earlier incase of SIP lets say the investor does an SIP for 10000 rupees per month for 2 years, you calculate saying 4800 is the total expense and the investor stops the SIP 6 months down the line so how we do a refund. Their will be accounting complications as well. And asking the investor for 200 bucks every month will be a pain in itself. The whole process of Mutual Fund investment was that it was systematic and very clear in NO CASH TRANSACTION and hence made the investor feel more confident, but now its all lost. I think SEBI made a wrong choice, and lets not compare India to US we both live in different parts of world and have different mindsets.

From Prasunjit Mukherjee

August 5, 2009 10:09 AM
Harish, my stance on this is a s before....SEBI is a pain and the less said abt AMFI the better. I still do not know very many Treasury hEADS in banks who know about where they want to go and want they want to do with the money..so when the times were good they just added all kinds of NFO's to their portfolio but now look where they are ....losing precious money for their bank's depositors. This is the state of affairs in the highest echelons...and we expect a retail guy to correctly state his objective. Someone in the string has rightly said, every MRP does not have a break up so why in mf and besides remember it is the IFA's that have made the indutry grow and now they are being penalised the most. The whole issue is disgusting.

From Harish Rao

August 5, 2009 12:28 PM
@Anil : The SIP issue is indeed tricky. If collection of fee becomes the focus, then the 'goal' becomes diluted. Upfront collection, once every six months or at the time of every quarterly review is more feasible. Some advisors intend charging on AUM, so the SIP gets accounted for. @Prasunda: Now that the baby is before us, alive and kicking, we can't abandon it. The Fee based structure is now a reality. I agree, it has been hugely disruptive as well as unfair when compared to other investment products. But, we HAVE to make it work.

From Harish Rao

August 5, 2009 12:34 PM
@Swarup : Yes, interesting times indeed. However, if the advisor lays down all the cards on the table in a transparent way, there is no way an investor will not pay him. The truth is that while charges and loads have been downplayed, illustrations and expectations have been hyped. Payback time boss, payback time. @Rajesh : All that you have been saying is 100% valid. But what to do, it is irreversible. Why not see it as an opportunity as being transparent, innovative and client friendly.

From Harish Rao

August 5, 2009 12:40 PM
@Prashant : Valid observations. However, a fee based system - whether cash or cheque - exists amongsts doctors, lawyers, tuition masters or CAs. May not be a valid argument to shoot it down.

From Swarup

August 5, 2009 1:04 PM
Harish, As I said, there has to be a valid proposition from the advisor to the investor to look at the payment option. Needless to say transparency is a given. Yes it is payback time!!

From Harish Rao

August 5, 2009 4:21 PM
Swarup : Looks like investors are all willing to pay. But I do empathise with advisors on the how to, in what form, in what frequency aspect of payment.

From srikanth v kulkarni

August 6, 2009 5:56 AM
fee based proposition is welcome but client is not comfortable giving a seperate cheque as he is used to that -free service/advice, though he was charged entry load and was comfortable.business in mf is more than just getting cheque/advice/commission etc,. which is trust/long term relationship between client and advisor which cannot be valued in terms of money.we were the bridge between fund houses/products,and the investor. a toll was paid to the bridge for which investor never had any complaint.advisors were the ladders for the fundhouses to reach new highs,because in our country mutual funds are still sold not bought,.let us get paid in a dignified way rather negotiate with each client who measures our services in different scales convenient to him.transparency is required but not to the extent that it vanishes,.hope the industry gets lights peeped in with all these darkness which was not necessary at this moment.

From Harish Rao

August 6, 2009 7:36 AM
Srikanth : Liked your analogy of bridge and toll being paid. I think all clients recognise that a toll needs to be paid, but need to re-work payment mechanism. If it was embedded in petrol cost, they would not mind, but paying seperately makes it tough.

From Dipankar Pattnaik

August 6, 2009 9:20 AM
As usual, one cannot miss what you feel for the mutual fund industry and how you would like this industry to grow. I would like to point out that in recent years we have seen the markets swinging both ways and has shown what risk one carries when one invests in equity. Hence the role of financial advisor surely is an important one. However the concern is, can the industry grow with only financial advisors? I guess we need distributors also. That is going to help penetration levels. Of course with the changed regime, new practices will evolve but it surely will take us back to a slower growth regime. In the absence of assured payouts, small tickets will be hard to come by. On the contrary mutual funds have been primarily designed to cater to small investors. Someone putting in large sum of money is bound to be watching the markets closely and will be in a much higher position to negotiate with the advisor and may get away with no fees, at least for some time to come. Another important observation is that, we need far higher participation of domestic money in the equity markets for which we surely need a large pool of people selling mutual funds. Unless more domestic money comes in our markets will have to dance to the tunes of the FII and such others. SEBI's efforts should have been to improve the participation levels. What would one loose if they pay a fee of 2.25% upfront for a long term investment advise. Is that the real issue about low equity participation. I guess not.For people who know equity well, the direct would is very convenient. Today most investors think that they are doing a favour by investing in funds that we pitch in. After one favour they surely would not be in a position to pay a fee. So advisors have to actually get themselves to a situation where they make the investor feel that he's doing some long term sustainable service to him/her. That would be a long time especially in a country where every tom, dick and harry is an advisor for any problem under the sun. So the challenge is bigger for a compensation that is peanuts. I am sure for everything that I said, there are counter arguments and the issue is pretty much debatable. The expectations from the investors' side is as wide as it can ever be. But the real question is, is it a mutual fund advisor's money, we should look at or the greater good of the developing the equity penetration in the country? For a greater cause, we have seen in all spheres of activities, be it road, industry or an irrigation project, few people suffer. But that looks good when we are addressing the greater cause.

From Swarup

August 6, 2009 9:26 AM
Harish, That is the basic problem. In India where the most of the transaction is still in the physical form, the payment mechanism is the biggest hindrance to investments not being able to penetrate more. It is funny that money invested in Guwahati now travels to Mumbai, while his application details travel to Chennai/Hyderabad.The details of cheque clearance is send from Mumbai to Chennai/Hyderderabad...reconciled(I find it a miracle that it does happen!)and then it is a valid investment. Apart from payment from the clients, the new revenue system will be a hindrance to attract new advisors to MFs. That is even a bigger problem for the penetration of this product. Whether the client will pay or not..only time will tell. The points we need to concentrate on are: 1. Do we have the product strength to get clients consistently? 2. Do we have a valid proposition in front of the client to demand the payment? All of us know more people who DO NOT invest in MFs than people who invest in MFs. We need to talk more..work harder...in the "DO NOT" segment! ( for the sake of repitition, these are personal views)

From jayakumar

August 6, 2009 9:30 AM
Harish, well said. Reality is yet to sink in. I am a distributor and during my interaction i have seen different set of people. Earlier after my interaction few asked me what are my advisory charges and i used to say i am compensated by the fund house by brokerage so i cant charge you twice, few asked for a passback i refused to do business with them and then there were few who took my advice and gave me fraction of their investment and went ahead with the bulk of investment 'direct' despite me being transaparent with them. So the new change is disruptive. As much as a customer is choosy about the advisor, the advisor needs to be choosy as to his clients. While IFAs mostly were good advisors as they interact with the investor on a more regular basis and are permanent in their profession were offering good sincere advise there were other class of big distributors with relation ship managers /wealth managers who were churning clients portfolio or arm twisting them into investing in one of the financial products promoted by them whenever a client needed service from them for their core activity. perhaps this should have been fixed first. If the regulators move is apart from transparency, by lowering the cost more mass base might be created like in stocks i think then it is flawed .if this was the case then people should be queing in front of NPS for account opening.

From Harish Rao

August 6, 2009 12:20 PM
Dipankar / Swarup / Jayakumar : Terrific arguments. Superb observations. Let me tell you guys a story. I had a VVHNI working in my team about a decade back. We guys went to a popular joint to have pani-puri / golgappas. The system was that you buy a token from inside the restaurant for Rs. 10 and exchange it for pani-puris at a counter outside ( he would give about 10). This guy strikes a separate deal with the guy outside and gives him Rs. 16 ( for two of us) for the pani-puris (say 10 each). The I am happy - you're happy deals. This is the height of opportunitistic disintermediation. We are surely going to come across a lot of interesting investors. But I still stand by one general axiom : the advisor with passion will definitely get his fee. And passion can only come from Integrity and Honesty. The 'con-men' amongst advisors rarely have infectious enthusiasm.

From Dipankar Pattnaik

August 6, 2009 3:29 PM
I think too much is being made out in the name of the transparency in dealings. Most sustainable businesses run with high degree of transparency. There will always be special deals made as the Rs.16/- paani-puri deals. The people who make unreasonable money for a longer period of time are rare be it any business. I completely agree with Swarup about the valid proposition to charge a fee. Most of the advisors will have to resort to a bunch of products like health insurance and life insurance and such other things and have to have a complete-wealth approach for the same. Mutual funds per se` may not have the strength to charge a fee, at least in the retail segment. And how many people are willing to listen. Very few. Surely things will evolve for better but will it be worthwhile?

From Harish Rao

August 6, 2009 4:32 PM
Dipankar : Agree. Bundling of all financial products by an advisor is the best option. As regarding retail, I suspect, high volume, no fee models will emerge and be successful, as far as it is only transaction oriented.

From sandeep

August 7, 2009 5:24 AM
@Harish 20 panipuris for 16 bucks (direct) otherwise 20 Panipuris for 20 bucks. So the token collector is getting 4 bucks (atleast) and u r not getting ur money worth. or that the person running the business was clueless. I dunno about the business but panipuri guy would survive.:)) It better be best for the owner to see he recruits honest people.

From Anoop

August 7, 2009 4:53 PM
But one should also understand that what is the service being provided. In India there is nothing called service. If people are filling forms for you - thats your service. There is so much information available online on each fund .. one can choose and decide. Theory and gut feeling. Compare this with absolutely unqualified (some loser) charging you for your lazyness. Once this entry loads has been banned all banks are shutting down their mutual fund distribution business. Cause they know, their staff doing the advisory are just CLERKS filling up forms with ABSOLUTELY NO CLUE of which fund will do well and WHY. BET THEY WOULDNT EVEN KNOW THE FUND MANAGER, Portfolio etc. WHY SHOULD I PAY FOR A COURIER GUY. I can transfer funds online. WAY TO GO. just need to ensure these websites dont crash .. cheques going to wrong address/ acs which i think in service industry in india is ACCEPTABLE.

From Harish Rao

August 7, 2009 6:23 PM
@ Anoop : Even filling an application form is a service. It was taken for granted till now. Try following up with an ISC for any lapse in service. If there was any advisor providing only 'courier service' then he deserves compensation only for that. However, what about asset allocation, which is where returns come from, as opposed to security selection? Who is going to keep track of that? @ Sandeep : Was only highlighting how easy it is in India to distort a system. And what about lines of business where there is information assymmetry - Real Estate and Insurance.

From Amit Luharuka

August 9, 2009 7:54 AM
I know one guy who is a stock broker & who supposedly manages portfolio of retail clients on his own individual basis. What he does is quite interesting to churn up higher stock brokerage. Each time the stocks in which his clients have invested goes up reasonably well, he will call up his clients and put up a very clever and emotional pitch.... he will ask them to sell their shares by saying its better to take home some profits in your pocket, while the markets are doing well. Its another thing, that this same guy after a month will ask the same clients to invest or take delivery in shares again. By doing so, this stock broker earns a .50% commission twice i.e. for each buy and sell. Isn't this churning happening here ? Look at the irony. For a stock broker, such monies invested or disinvested every month represents fresh money or investments on which he is earning upfront commission everytime. The effort involved is so minimal as all he has to do is punch in few keys on his terminal and lo and behold .. the transactions are done there and there. But look at us distributors. We are supposed to give full advice, do the complete paper work for the client, run around to solicit business and yet we are still not assured of any upfront and even if assured its a petty .50% and that too just once at the time of investments. Why the SEBI Chief can't force this set of brokers to cap their upfront brokerage charged on delivery of shares purchased or sold to something significantly less than the existing 0.50% ?????

From Harish Rao

August 9, 2009 12:46 PM
Amit : In the case of broking houses, the 'market' is supposed to take care of it. Models like 5paisa.com (in its earlier avtaar) and Reliance Money were anyway expected to beat down prices. As regards the 'clever' broker, maybe he has even more 'clever' clients, who will abandon him when there is either a market downturn or a cheaper broker.

From sandeep

August 12, 2009 8:13 PM
@ Harish Sir, Information asymmetry is either an arbitrage opportunity or threat to public trust. Depends on which side - you are standing on. Most people when playing with their own money - would do a through evaluation before making their choices. As per my own thinking - Free market economy follows the Darwinian hypothesis of "Selection of fittest". How about a blogpost on new direct tax code.

From M.VENKATARAMANA

August 14, 2009 10:07 AM
Yes I agree. But will anybody advise how to pay this ? What is the procedure ? More importantly how much to pay ? If I avail services of an Advisor and invest Rs.5000/ in a MF , should I pay him cash upfront and how much ? I understand that earlier he used to get 1 % from AMC. Can anybody suggest and confirm. Thanks, Venkataramana

From wierdo

August 19, 2009 11:48 PM
Venkat..you pay two cheques to the person through which you are investing. One cheque crossed in the name of AMC/policy/plan etc and the other post dated cheque in the name of your advisor or whatever he wants. (you can pay cash as well or give him your credit card details with CVV off course....just kidding). The amount is something you both have to discuss and decide, it can be from 5 to 5K (you are offering him tea don't you). After this rule came out, I have some doubts in my mind: 1. Does SEBI has any guidelines on people who can provide financial consultation. 2. Does SEBI offer any course, certification etc. to prepare personnel specific to financial consultation. 3. Does common man knows if there is any minimum qualification that could be checked beforehand to see if the person is capable enough to provide valuable advices. Could someone clarify...thanks.

From NAVNEET DHAWAN

August 20, 2009 11:23 AM
NICE INFORMTION

From Bbino

September 20, 2009 1:21 PM
Dear Sir, This comment,is a late one & therefore may consists of after effects of SEBI advice to getaway with the entry load ie August09. But please see the scenario now. Even famous brokerage houses like HDFCBank started collecting investment a/c maintenance charges of Rs 800 annually even if you donot do any business even if you do for debtfunds. The statusquo was better, if you want to invest with any AMC, you can apply directly (just like you do now with bank and broker) and there is not even a single paise entry load money deducted. Actually people must know about this. There is no additional benefit actually you are getting for approaching any broker. They know how to fill forms !! Nothing else. Investors normally go to there for some other purpose and there they propose some fund details and force them to join. LOL.. Online facility has been extended by almost all AMCs. Why don't investors make use of it? Nowa days it is rather simpler than going in to their office and get yourself joined in some crap funds unknown to you !!!!!!! Here nobody is doing any service but just force you to give your money as service fee and join to the fund/plan they propose..... Bbino.

From Chandrashekhar Wankhede

October 30, 2009 4:35 PM
Dear all , I m working at nagpur as insurance advisor. pl tell me the golden trick to earn from investor by selling MF ... if i collect cheque of investment amount + 2%+ service tax in favour of MF distributor, will that MF distributor refund my 2%... if available, Pl name that distributor... will this scheme work for SIP by bank ECS... ? Pl guide me...

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