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Should Sebi make large funds charge less fee from investors?

The TER should be 2.25 per cent maximum for equity schemes and 0.25 per cent for debt plans.

ET CONTRIBUTORS|
Updated: Aug 20, 2017, 02.49 PM IST
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There should be only one plan with one TER. This will reduce administration and financial accounting problems for calculating multiple NAVs.
There should be only one plan with one TER. This will reduce administration and financial accounting problems for calculating multiple NAVs.
I have been in the mutual fund industry for more than two decades now. The industry has grown leaps and bounds from where it had started. It is known to be one of the most regulated industries in India. Last year, Sebi directed asset management companies to disclose the actual commission paid to distributors (in absolute terms) against the investor's total investment in each scheme. While this didn’t go down well with distributors, it was well implemented by all AMCs.

But I wonder if this is enough and the envisioned benefit is known to the investor. In my utopian world of MF industry, the total expense ratio or TER would have been a major driving factor. There should not be separate plans for direct subscription (direct plan) or for subscription through distributors (regular plan).

There should be only one plan with one TER. This will reduce administration and financial accounting problems for calculating multiple NAVs. The regulatory intent of passing out the benefits of non-payment of distribution commission to the subscribers under the direct plan is not getting transparently and completely fulfilled in the current dual plan structure.

So what can change if we shift to one plan (combined) total expense ratio?

1. The TER should be 2.25 per cent (225 bps) maximum for equity schemes and 0.25 per cent (25 bps) for debt schemes. Currently permitted additional TER for investment mobilisation from B15 (beyond top 15 cities) (with clawback) and additional TER for write-back of exit load should be discontinued.

2. TER should be fungible as is at present, however full expenses, item wise disclosure (in absolute figures and as a percentage of AUM) should be made in notes to half-yearly accounts of all expenses (TER) either paid directly by schemes or using the fungibility route paid for by the AMC. The disclosure of expenses should be for all scheme-attributable expenses, if paid for by the AMC. This will ensure transparency of expenses levied.

3. Any statutory levy on the management and trustee fees or any statutory levy charged through reverse recovery/charge mechanism (if any) should be over and above the cap on TER as stated above. Since statutory levies are not certain in the Indian context and change frequently, levies on AMC and trustee income should be separated as such levies distort budgetary planning.

4. The slab-wise charge of TER as per AUM (for equity scheme) should be :

a) 2.25% up to first Rs 300 cr AUM

b) 1.75% for the next Rs 500 cr AUM (i.e 300.01 cr to 800 cr AUM)

c) 1.25% for the next Rs 700 cr AUM (i.e 800.01 cr to 1500 cr AUM)

d) 0.75% for AUM thereafter (i.e Rs 1,500.01 cr AUM and above)

This will help smaller AMC with higher TER at disposal for marketing a newly-launched scheme (care be taken that not many NFOs are done by any AMC) as against the current cap of TER at Rs 100 crore AUM, while reducing the TER for larger schemes, which is not the case currently. Thus for a Rs 2000 crore equity fund ,the TER on an average would be 1.40 per cent (140 bps) + statutory levies, while for a debt scheme, the TER on an average would be 1.15 per cent (115 bps) + statutory Levies.

· The maximum TER of 1.50% at present for ETF and 2.50% for FOF schemes should be changed to 1.00% for ETF and 2.25% for FoF schemes.

· If any equity scheme TER is 0.50% (50 bps) or below, and the same for a debt (including Liquid) / ETF / FOF scheme is 0.25% (25 bps) or below, then for all schemes in that respective asset / class, the maximum TER allowed (irrespective of the total AUM) would be twice the lower TER charged in that asset / class scheme. (i.e maximum TER permitted would be twice the TER charged if / which is lower than 0.35% or 0.25% respectively of the asset/class wise), subject to any maximum TER caps permitted.

This can ensure that no scheme TER is based on marginal costing funded by other larger schemes with higher TER. This will also bring legitimacy in cost structures and avoid ridiculous rebating to institutional/wholesale customers in debt (liquid/FMP/ short term) and ETF (equity ETF) products. This will strengthen the revenue streams of AMC. In case the AMC still chooses to have a lower TER, then it should be lower across all schemes and not selectively for a few schemes.

· Marketing expenses should follow the following:

1. Maximum marketing expenses for any scheme (including ARN commissions or RIA advisory fees) as defined by Amfi should not be more than 60 per cent of the average TER of any scheme.

2. No upfront or advance trail commission should be paid either by the scheme or by the AMC from its capital to ARN holders

3. Commissions for subscriptions received from ARN holders should follow a trail model within the stated cap for marketing expenses of the schemes and should be paid out of TER only

4. No scheme marketing expenses to be paid for by AMC from its own capital i.e. Scheme marketing expenses can be paid only from management fees earned by the AMC and / or from expense ratio (TER) charged to the scheme, but not from AMC-own reserve fund/capital. An AMC can pay only for AMC/MF branding. (Amfi can define branding)

5. All commissions paid across each distributor category-wise should be disclosed on the AMC website and consolidated on the Amfi Website AMC wise, and for that particular distributor on A/c statement sent to the customer. Distributor categorisation should be uniform across AMCs as defined by Amfi. This disclosure while bringing transparency, will also act as a check for advisory fees being charged by RIAs. Besides, genuine ethical distributors will not be at a disadvantage from “asset gatherers”.

6. Advisory Fees for subscriptions received from RIAs may be paid for by AMC / scheme out of TER on behalf of the Investor as per Investor’s authorization to the AMC. Maximum RIA Advisory fees should not be more than 40% of the Average TER of any Scheme. This will help ensure that RIA’s gets the fees regularly for the advice they render to the customer (and not lose out if the customer stops paying if the RIA were to receive the Fees directly from customer) and will help the promotion of RIA.

This will instill discipline among the AMCs and also curb reckless spends.

· For mobilization through RIA or directly, the Investors at the time of allotment of units during subscription will be credited additional units equivalent to the 100% value of the commission (for the amount of subscription) applicable under the Highest Commission rate bracket of a relevant Distributor Category for that Scheme. This will ensure that the benefits intended to be shared with the Direct subscriber is shared while any legitimate Marketing expenses in non-distributor channel or media would form part of the TER. Currently, the difference between the two plans Direct and Regular is not so material, and the Direct Subscriber is not given the benefit. This should not be deemed to be rebating since direct credit of benefits is the overall Government of India mantra to ensure no pilferage.

· Both ARNs and RIAs should be shared data feeds of investors by the AMCs to ensure better servicing.

I believe all Indian investors deserve sensible, low-cost opportunities to participate in the market. However, it is also very important for the entire system to be investor friendly and AMCs should first priorities their investors moreover also make sure that ARNs and RIAs are given their true levies.

Moreover, to encourage investors to invest in mutual fund schemes in India, we need to allow eligible individuals to start an AMC (like in banking sector RBI granted banking licenses to individuals - small finance and payments banks to further the regulator's objective of deepening financial inclusion). With more and more good and honest players in the industry, investors will have enough mutual fund schemes to choose from. In the US there are some large fund houses which were initially started by an individual. Vanguard and Templeton, both mammoth fund houses today were started by John Bogle and Rupert H. Johnson, Sr respectively.

To conclude, the last thing we want is a mutual fund industry where a cabal of large fund houses offers a limited choice to investors with high expense ratios. As stated earlier, RBI has already given a green signal to the banking sector by allowing new players to set up niche banks. This is a positive start in the finance industry and we look forward to the mutual fund regulator soon approving and making way for more and more individual investors to start AMCs in India! Moreover, there is still room to reduce the expense ratio to make mutual fund schemes 100 per cent suitable for Indian investors.
(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)

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