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The mutual fund industry is out of sync with market realities and investor needs

As an industry, the collective of Indian mutual funds has completed 20 years this year — a period long enough to grow up, be mature and be an investor darling as the MF industry is in developed markets.

But has it? The Indian MF industry itself is divided on this. Some of them still talk about having to “take off”, others say the industry is still in its nappies, needing government nursing now and then.

One key man in the industry is Sundeep Sikka; he wears two hats: one as chairman of the industry lobby, Association of Mutual Funds in India (Amfi); the other as CEO of Reliance Capital Asset Management.

He is clearly wearing the lobbyist’s hat while telling Financial Chronicle that when two years ago he had predicted the industry would touch Rs 10,00,000 crore soon, everyone found it hard to believe.

At the end of last month, he gloats, the industry’s asset under management (AUM) was almost Rs 9,00,000 crore. He makes another prediction that the industry will ‘take off’ and by 2020 the AUM will reach Rs 20,00,000 crore.

But a fair question to ask him is: if it is still to take off, where is the industry today?

A Balasubramanian, CEO of Birla Sun Life AMC, answers: the Indian MF industry, with less than 20 million investors, is in a nascent stage when seen in the light of the potential.

Ajit Dayal, chairman of Quantum AMC, knows where the industry has failed. It has let down the retail investor completely, he says. It has decimated investor wealth so badly that a whole generation of retail investors considers it untouchable. “Instead, they prefer to keep their money in the bank.”

Dayal explains why this has happened: the biggest fund houses, obsessed as they are with collecting more and more money from more and more investors, have not correspondingly delivered better returns.

That obsession with size is evident in Sikka defining the industry by the money collected and Balasubramanian speaking of the number of investors.

Size does matter but what matters more are the innards of the industry: the fact is even after two decades and more (including the pre-private sector entry when UTI was king with a few other state-sector stragglers for firm) it is the large corporate and institutional investor-driven money that’s coming into liquid and ultra short-term debt funds, the only drivers of physical growth.

This is an irony since a mutual fund industry is founded on the premise that novice investors will put their money in MF units and that money will be pooled, managed and invested by professionally qualified fund managers for optimum returns for all the investors in the pool.

Instead what we see today is that most money is coming from corporate investors, banks, financial institutions and foreign funds – not quite the novice investors as they already have the wherewithal to make money by investing their funds themselves.

Within the industry, the business is skewed. “The top 10 fund houses contribute 77 per cent of the total AUM, and the bottom 10 a mere 1 per cent,” notes Gautam Mehra, PwC leader of asset management in a recent report.

All this does not convince Sikka, ever the lobbyist. Hear him out: “I would say our industry is the best and strongest from the points of view of regulatory framework, valuation practices, transparency and risk management.”

So why are retail investors think the industry is full of crooks? For that we have to go back to the advent of the private sector in the MF industry.

Two decades ago, in October 1993, Kothari Pioneer MF was the first Sebi-registered private sector MF to launch schemes. But the investor really sat up and took note when Morgan Stanley arrived in India with its own MF. Its first scheme, a 15-year, close-ended scheme, MS Growth Fund, opened for subscription in the first week of January 1994. Such was the enthusiasm that mile-long queues of retail investors were seen outside subscription centres.

Dhirendra Kumar, CEO of Value Research, remembers: “Before the launch Morgan Stanley MF had fixed a maximum subscription target of Rs 300 crore; allotment were to be made on a first-in-first-out basis. The fund ended up allotting units to all applicants and netted about Rs 980 crore.”

“Investors chewed up on this and it made for a con job,” is how Kumar puts it. The new fund offer had elements of dubiousness, which sooner or later the investors discovered. Sebi did not lift a finger to correct things in its eagerness to roll out the red carpet to other foreign players. It was an inauspicious start for the industry in its private avatar.

The industry has come full circle. The Morgan Stanley MF chapter was finally closed this week with HDFC MF announcing the takeover of all its domestic schemes.

But mutual fund houses not run by crooks were still lapped up. In 1994, the year of Morgan Stanley debut in India, and the next year several other well-run schemes came. Besides, open-ended equity schemes began to be favoured by investors.

Still, the first decade of 1993-2003 saw some upheavals: there were entries and exits of MF players. Kothari Pioneer MF, the first private sector MF, got taken over by Pioneer ITI AMC, which was in turn taken over by Franklin Templeton India. In the churning, Indian Bank MF got merged with Tata MF in 2001 and Zurich India MF sold all its schemes to HDFC MF in 2003.

In the next decade, 2003 to 2013, more churning happened. In the past 20 years 18 AMCs have disappeared, notes Kumar. He sees two reasons for this. One, foreign players exited not because of efficiency issues but because of global realignment of their parents’ business. Zurich India, Alliance Capital and Fidelity India were in this bucket.

Others such as IndBank AMC, BoI AMC, Jardine Fleming India, Sun F&C AMC and IL&FS AMC, according to Kumar, were inefficient and had to go, “being incapable of running a mutual fund business for the long term in the India market.”

Retail investors did not take kindly to the frequent changes in the industryscape, Sebi gave them (and still gives) an exit option in case of a change or a takeover. For instance, retail investors who had invested in Fidelity India MF schemes and had a long-term investment horizon may or may not be comfortable with the style and other indicators of the Indian fund house, which took over its schemes in 2012.

At the end of all that churning, 44 AMCs have survived. But who knows how many of them will still be around in the next three, four, five or 10 years?

Investors are worried that their choice of AMCs will further narrow. Amfi and some large AMCs want Sebi to raise the net worth of existing and new players to Rs 50 crore. This is guaranteed to lead to a huge churn, as many small fund houses will find it difficult to meet the high net worth requirement. Indications are Sebi may give in.

On the contrary, Dayal thinks the net worth bar should be lowered to widen the choices for investors and provide a healthy competitive environment. Kumar agrees that the proposal to raise the bar is ‘stupid’. “Five bright professionals can together provide better fund management then a large corporate entity and large AMCs can do stupid things and get away with it,” says Kumar dismissively of the proposal.

Last year the industry extracted a key concession from the finance ministry and Sebi: the expense ratio was raised to help the MF business to go to smaller cities and towns. The extra expense came from the pocket of existing MF investors. “This is intellectually dishonest,” grumbles Dayal who argues that business expansion costs must be met from the coffers of an AMC and not from its existing customers.

Two decades should have been enough for the fund industry to mature and be on its feet. Instead, it still needs regulatory hand-holding and concessions – hardly the traits of a good and mature industry. All one can say to the industry is: grow up.

(With inputs from Ravi Ranjan Prasad)

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