Mutual fund sector gets set for a churn

Tags: Opinion

Sebi’s tough stance on MFs has evoked mixed reactions lately

Mutual fund sector gets set for a churn
PRODUCTIVE PLAN: Sebi should be focussed on setting up systems to reward AMCs that outperform scheme benchmarks by allowing them to charge a slightly higher expense ratio
The recent decision by the Securities & Exchange Board of India to raise the net worth requirement of asset management companies from Rs 10 crore to Rs 50 crore has attracted a fair bit of debate and raised questions of whether the move is pro-competition or aims to restrict competition in the Rs 9 lakh crore Indian mutual fund mart. The primary intent behind raising the net worth requirement from the regulator’s perspective is to further the agenda of financial inclusion of the government, by broadening the reach of the industry to well beyond the top 15 cities of the country.

A PWC report released in 2013 points out that these 15 cities contribute to 87 per cent of the entire assets under management (AUM) of the industry and in fact, the top five cities (Mumbai, Delhi, Chennai, Kolkata and Bangalore) contribute 74 per cent of the entire AUM in the country.

This concentration of inflows is despite the capital markets watchdog allowing mutual funds to charge an additional 0.3 percentage points total expense ratio on daily net assets of the scheme, if the new inflows from beyond top 15 cities are at least (a) 30 per cent of gross new inflows in the scheme, or (b) 15 per cent of the average assets under management (year-to-date) of the scheme, whichever is higher. Sebi chairman UK Sinha feels that by raising the net worth requirement, firms with low market share may exit the business and the larger well capitalised firms would be better able to pursue the governments agenda of financial inclusion.

The underlying thought behind these moves is that wider reach and penetration of mutual funds is the key development role to be played by the regulator. But if we harken back to the raison d’etre for mutual funds as a financial instrument, then perhaps, one may ponder whether the regulator’s efforts need to be directed elsewhere.

The fundamental business case for enticing investors to park their money with a variable return vehicle such as a mutual fund (MF), is that it will offer professional management of the investors’ money at a lower cost than what would have been possible for the ordinary individual. Thus the two premises of MFs are better returns by employing professional fund managers and using scale benefits to reduce cost of investing.

Even though gross domestic savings to GDP is at 28 per cent in India, the ordinary Indian saver has yet to be attracted to the star product of any mutual fund industry — the equity fund. The ordinary investor in India is often given much less credit than he deserves. But, they are particularly apt in discerning which saving option offers the best potential for beating inflation.

A look at the Crisil-AMFI Fund performance indices is enlightening. The three- year returns as of end December 2013 for the diversified equity fund performance benchmark were 1.25 per cent while it was 2.14 per cent for the equity fund performance index and 2.73 per cent for the tax saving-ELSS fund index.

With returns lower than what savers get on their savings bank deposit accounts with banks, is it any surprise that MFs form a very low sliver of the typical investor’s portfolio? A market-linked return scheme can work only if the market can offer returns that are attractive to assume the risk of variability of these returns. In the present scenario, no MF in India is willing to stick its neck out and offer an assured return scheme (a place where its own capitalisation and sponsor guarantee would come in handy). The necessary condition for attracting investors to MFs is first and foremost provision of attractive returns. When that prerequisite is satisfied, then only will the industry see its customer base multiply.

Sebi should be focussed on setting up systems to reward AMCs that outperform scheme benchmarks by allowing them to charge a slightly higher expense ratio rather than functioning as a business development manager for the industry, allowing them to charge a higher expense ratio for increasing their assets under management from virgin geographies.

(The author, a former journalist, is an independent corporate watcher)


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