Retail MF Investors … It’s Your Hard-earned Money. Take These 10 Precautions
The mutual fund (MF) industry comprises of 41 asset management companies (AMCs) in India managing 1,916 schemes with a net asset under management of Rs22.26 lakh crore as of 31 March 2020. MF schemes come in all shapes and sizes with numerous permutations and combinations. Decision making process with respect to investment in mutual funds has become very difficult in view of this voluminous data. Thus, retail investors depend heavily upon the wisdom of the distributors for their investment decisions.
Individual distributers are associated with a few fund houses. Institutional distributors generally build a team of financial experts for their wealth management activities. The same team analyses various mutual fund schemes and freeze upon a set of seven to eight recommended schemes. These schemes are downloaded to the front office system (FOS) to sell. Distributors are hugely biased towards mutual fund houses that gives them maximum upfront fees, trail commission, reimbursement of client expenses and of course sharing of R&R expenses. FOS are literally bullied to ensure sale of the recommended schemes. Good sale numbers result in career growth, higher incentives and invitation to R&R events.
Thus retail investors are handicapped right from the word go. They get biased, incomplete information and are generally coerced into taking decision by these parroted generally unqualified FOS with incomplete knowledge.
A normal retail investor does understand that investment in mutual fund is prone to risks and losses. A better informed retail investor makes a more appropriate and learned decision. However a retail investor having no knowledge of the investment integrities solely depends upon the distributor to take decisions for him.
The following precautions may be taken when dealing with a distributor’s FOS.
1) Securities and Exchange Board of India (SEBI) has mandated that every person in the business of selling mutual fund needs to have passed the National Institute of Securities Market (NISM) V-A certification. The certificate is valid for only three years. Institutional distributors circumvent this important criteria by stating that their FOS are only lead generators and the mutual fund is actually sold by a qualified person. In reality, it seldom happens. Simply ask and check the copy of a valid certificate.
2) FOS generally speaks only about the few mutual fund houses that he/his institution is associated with. There are always better options. It is always advisable to have a second opinion. You do it for medical diagnosis of reputed doctors then why not for investments. And never get carried away by terms like global trade war, and China factor. Compare the recommended funds with their peers on a few research websites. Use them as indicators but remember that these research websites only compare past performance and rate them.
3) “HOOKS”is a term used to tie the customer to the distributor with numerous interlinked products and features which makes it difficult for him to exit even if he gets shoddy customer service or a better deal from competition. Beware of these hooks and always prefer easy exit alternatives.
4) FOS insist that you at least begin a systematic investment plan (SIP) with a small amount. Fund houses upfront the trail commission to distributors for SIPs hence the push. While SIPs build investment discipline, averages costs, it may be difficult (though you certainly can stop a SIP without any charges and the units can be withdrawn or moved to other scheme) to move easily into another scheme during the pendency of the SIP. Hence invest into a SIP only if you are sure of the MF scheme details. Prefer a 12 month SIP. You can always begin another SIP after reviewing of the progress. Please note that the taxation and exit loads are applicable as per the date of each installment of SIP and not from the date of first installment.
5) Always insist for the fact sheet of the mutual fund scheme. Please read the key facts very carefully and also review the official performance of the MF scheme. You would also like a quick scan of the portfolio to reveal apparent investments in bad companies or concentration into one particular sector. Remember that fact sheets are historical statements and you are investing into the future.
6) FOS staff are very active whenever a new fund offering (NFO) is launched. This is because the fund houses generally is liberal with the commissions, share prelaunch expenses for R&R events and upfront the trail commission. But retail investors need to remember that NFOs are chartering into unknown territories. There is no track record of the fund and/or the fund manager. There are numerous other factors that decide the performance of the NFO. Never be venture into NFOs unless you are very confident and have risk appetite.
7) All sectorial funds must be viewed with great caution. The equity market always moves in cycles. At some point some sectors perform very well while other lag behind. A case in point is the pharma sector fund. It required a Covid-19 for the pharma fund to show signs of performance.
8) Close ended funds also are very dicey. While AMCs state that close ended funds help the fund manager to take necessary decisions without the fear of redemption, it always leaves the investor with absolutely no liquidity till maturity. The net asset value (NAV) of HDFC Housing Opportunities Fund Series 1 1140D November 2017 (1) - Direct Plan as on 21 May 2020 is 6.57 i.e. an investment of Rs1 lakh is valued for about Rs65,700 after two and half years. This fund is from the stable of one of the largest fund houses of India HDFC MF and is managed by one of the most reputed senior fund manager Prashant Jain.
9) FOS generally have young boys and girls, who are constantly moved from branch to another branch maybe due to performance or career growth. In almost all cases, the person who sold the MF to you is seldom available to you for your queries in future. Hence all possible clarifications, permutation and combinations be got in the first instance itself.
10) Mis-selling is rampant in the industry. MFs and insurance products are sold as alternatives to secured fixed deposits (FDs) with higher rate of return. Signing of the forms with the terms and conditions give grounds to deniability to the distributor and the fund house. It may be interesting idea to record the entire discussion with the FOS after informing him of the recording. Don’t these institutions record your calls to their call center for training purpose!!! If not anything else, it will at least install fear and the FOS will not make false statements.
Mutual funds are an essential segment of your investment basket and you should invest a portion of your savings in MFs. Selection of the right MF and regular monitoring of the fund is essential. The above 10 suggestions will help mitigate the losses.
While initially assistance of distributor may be taken, it is always advisable to reduce the dependence on distributor over a period of time and move to direct schemes. The difference over a period of time is huge. Example: the difference between Rs1 lakh invested in regular plan and direct plan of Axis long term equity fund on 1 Jan 2013 is a huge amount of i.e. Rs22,288 (22.28%).
And remember distributors are paid trail commission from your investments irrespective of the funds’ performance. It is their job to visit you periodically and help you analyze the performance. Don’t let them go scot free and insist that they meet you periodically at least once a quarter to discuss your investment.
And if they do not, just move to another distributor or redeem the funds or move it to direct scheme thereby depriving them of the trail commission. The time has come for the distributors to earn their trail commission and understand that there are no free lunches in this world.
(Dr Sampath Iyer is a retired banker with over 30 years of experience. He retired as a Senior VP from a very large private sector bank. He is also a visiting faculty in a few colleges and business schools taking sessions on a range of topics including banking and personal investments.)