After a tough phase, the mutual fund industry is breathing easy. The question is whether investors will also do so. Secondly, mutual funds have a 25 year old history, yet less than 3 per cent of household savings get invested in them compared to around 41 per cent in fixed deposits. Obviously, fund houses want some of this money to come to them, but will they be able to do that? What is holding mutual funds back? Do they finally see light at the end of the tunnel?
Heads of six leading mutual funds participated in the Business Standard Fund Cafe on the challenges ahead. The panelists were Milind Barve, Sundeep Sikka, Nimesh Shah, A. Balasubramanian, Jaideep Bhattacharya and R Venkataraman. The Round Table was moderated by Shyamal Majumdar.
Moderator: The smiles are back on the faces of mutual fund CEOs, courtesy the government and the regulator. Will you be able to transmit that smile to the faces of investors as well?
Milind Barve: One of the objectives Sebi has recognised is how to increase penetration. This is a obvious problem for the industry as the percentage of business from small towns is significantly low. What Sebi has done is extremely innovative. A reasonably high amount of incentive can now be paid to distribution for getting business through small towns in a manner that affect the economics of doing business for the AMCs. The key thing is that we have to just make people aware that there are a number of fund products which are actually quite simple and low risk. So the challenge is to create awareness. We are now going to put Rs 150 crore at an industry level towards increasing it and at least over Rs 100 crore will be spent on improving penetration. I think these are meaningfully large amounts.
A. Balasubramanian: When we talk about mutual funds, the product that generally comes to the minds of people is only equity as an asset class. It is not necessary that equity is the only asset class that gives solution to investors. It has to be a right combination of equity and hybrid asset classes. More energy and time would be spent on making the concept more clear about investing in mutual fund rather than talking about a specific product.
Sundeep Sikka: The smiles are back, yes, but I think more responsibility lies on the industry now because the regulator has done what it had to do. It has given a clear roadmap. Now it is up to the industry to go to the next level because I don’t think we can go back to the regulator and ask anything more at this point of time.
Nimesh Shah: I see the topics that challenges an AMC are constant. I think challenge is always of fund performance. Whatever be the environment, as long as you see anybody who has given us strong relative performance, their business has done well. We should be able to justify our existence by consistently beating the benchmark and that’s what our endeavour should be.
Jaideep Bhattacharya: For me it’s a game changer. After a long time you have seen that the interest of key stakeholders in this business is being looked after. From the stakeholder’s perspective, I think the regulator walked five steps ahead to essentially see that all of us have something on the table. Second thing we need to look at is how do we actually move away from NAV-based selling to goal-based selling. A lot of times the goals are 15-20 years ahead but we still talk about one-year and three-year performance.
R Venkataraman: The market peaked in January 2008 and since then I think smiles briefly appear and they keep on disappearing. So last time people started smiling again was in the middle of September or thereabouts. There are two aspects of investing – one is the long term nature of investments and the second is disciplinary action of investing. This is a point of inflection because regulatory uncertainty also has been removed. If luck supports us, I am sure the state of the investment would be different in the next five years.
Moderator: One question that keeps on coming up and the regulator has also raised this issue quite a few times is that whether we have too many AMCs. We already have 44 out of which only the top five perhaps are making profitable growth.
Sikka: In the US, there are more than 4,000 AMCs. In my mind, there is a case of a hundred more AMCs because the industry is going to grow five times from here in the next 10 years. Please don’t see it as next 12 months, this business is about annuity. As long as you have a business model, as long as we are having the right products, as long as we have the investor’s confidence, the industry will grow and more and more AMCs will become profitable.
Shah: If you are the only AMC in a small town your business is ‘X’, we have seen two-three more AMCs coming to that same town, the awareness increases and your business actually goes up with more AMCs coming into that town. It is not the question of how many AMCs are there. The issue to look at is how many are serious pan-India players.
Sikka: It is very important for us today to keep the cost low, to reach out, to use the right technology at the lowest cost.
Bala: Some players have moved out of the industry, new players have come in. There are some who don’t have so much commitment to build a MF business model. At the same time, new guys are also seeing great potential. That’s the trend we could see going forward. The industry is evolving.
Moderator: But do you think the entry barrier for the mutual fund industry is too low?
Barve: It is best left to regulators than any of us in the panel. But it is important that if we have people who are not indulging in practices that are unhealthy. The entry barrier you refer to is very low. It is just Rs 10 crore capital which sometimes a handful of individuals can put. But I don’t think the number is an issue. The real question is are you serious or not. I think the reference to seriousness is whether you are committed to creating a good long term business model.
Bala: Low capital requirement has to do with the fact that the industry which has got a pass-through effect which essentially means the risk portfolios are borne by the investors. That is one way of looking at it. Also, there are a lot more regulatory restrictions that have come in portfolio construction, which removes the risks, which otherwise existed in the pass-through effect. One also has to look at it as an opportunity for somebody who is serious in this business, who has a long term track record and who can showcase it to the public and the market.
Bhattacharya: Capital is going to play a very important role in strategy. But everybody doesn’t need to have the same strategy. Everybody doesn’t need to be present in 250 cities of the country or have international presence, some could just be boutiques. So there is enough play for everybody in different formats, and for people who are in the market as well as trying to enter the market, I think all of them are working on a unique strategy as far as India is concerned.
Moderator: Funds have underperformed their benchmarks in the past few years. Even in the recent rally, 2/3rds of equity schemes have underperformed. What is the real problem?
Barve: I am very disappointed with the observation because you said ‘recent’ market rally. A fund can’t be judged by what it did recently. In the last six months, the market has gone up by about 7.8% of which 7.5% move came in September. Evaluating funds’ performance on the basis of how it did in the last one month is not fair to the fund manager. But I agree with you with the fact that people tend to look at recent performance and react to it. It is normal human behaviour. They tend to come to conclusions which unfortunately are not appropriate.
But, if you look at SEBI-compiled data, 76% of the funds have outperformed the benchmark in value terms over the last three years. Yes, in the last 3, 6 or even 12 months maybe, outperformance has been a challenge. But if we are looking at longer period, investors will be happy.
Sikka: Broadly, one of the biggest problems of this industry is that its success is just measured by two things, viz. assets under management (AUM) and returns of the scheme. This industry is much more than AUM because AUM is reflective of a lot of institutional money and scheme performance of 6-12 months, which is again a reflection of just getting the portfolio right; was it right for this recent rally, as you put it.
The way is ‘awareness’ and ‘education’. The awareness, even for the existing investors, is that you will have to highlight not about 6 months or 1 year. It is about a track record, you will have to see how the fund house has performed in different cycles. That experience is going to play a very important role. People should not get carried away with the performance of the last 6-8 months.
Bhattacharya: Let me just add to the tenure part. When you see the index for the last 25 years, the index actually gave you between 14-16% returns, out-liers being 7% and 27%. When you compare that with the other asset classes which are available, you don’t find too many which have matched this. Secondly, in a country like India where you have high inflation, no fixed income product will be able to beat inflation.
Sikka: I would like to give an example because we keep comparing everything short term. Three to four years back, there was a flat which was sold in Mumbai and newspaper headlines said, ‘The most expensive flat, sold at one lakh rupees a square feet’. Three years back, the cost of the flat (bought in 1972) was Rs 35-40 crore. But, when I calculated the IRR (internal rate of return) it was coming to 13%, which is what Sensex has given. The top 5-10 schemes, which have got a track record of more than 15 years, have given a CAGR of 20%. If somebody had invested in any of those, it would have been Rs 70 crores. So, it is more to do with ‘awareness’ and that is where the biggest challenge lies in India.
Moderator: SEBI has come out with new incentives for non-metros. Will they be enough for mutual funds to tap investors in smaller towns where business actually lies. Do you think what SEBI has done is enough?
Bhattacharya: The top 25 cities account for about 92% of the total AUM. There is a lot of wealth being created even outside the top 25 cities and they should have access to the best products and services, some of which are offered by mutual funds.
Second thing, from a portfolio perspective, non-metros’ churn rate is much lower. So, mutual funds get better stability when these products are sold outside the metros. Also, your cost of acquisition is much lower than what we sometimes pay for acquiring in the metros. The 30 bps incentive is a guidance, essentially to build capability in the tier 2 and tier 3 markets. But from a portfolio perspective, I will be happy with 30-40% coming from outside the top 15 cities.
Bala: The industry has been growing through its own branch network and some of them, of course, have expanded and some haven’t. This has definitely opened the door. Secondly, if you look at the service providers (like CAMS, Karvy) to the industry, they themselves today operate about 250-260 branches which also essentially means the network comes to play in terms of how do you effectively utilise it. Lastly, look at the population of the distribution community; it is only about 40,000 IFAs. The regulation is attempting towards helping the industry in getting more financial advisors for selling the simplified performing products. This is where I think the multi-pronged approach is necessary.
Moderator: One of the plans that SEBI came up with and is much talked about is the direct plan and in which the schemes must allow investors to invest directly. But, distributors fear that this will take away a large chunk of their business and will bring back the unhealthy practice of clients getting kick-backs from agents. Do you see this as a serious concern? And, how can this be addressed?
Sikka: If we divide this in two parts, there is the institutional corporates and the HNIs and retail. I will address the retail and HNIs part. Look at the performance the industry has given (return of 13-14% CAGR). The top 10 schemes have given return in excess of 25% and the bottom 10 about 2-3%.
Distributors are in a far stronger position than they actually think they are. I don’t see that a lot of investors will stop dealing with the distributors because they do play a very important role. The fund performance and the schemes will keep changing and investors will keep going back to the same distributor. But, like I mentioned, it is not a static thing that once the investor has invested, he doesn’t have to look at his portfolio. Given the large number of schemes (over 300 equity schemes) there will always be a need for which the investor will keep going to the distributor.
Venkataraman: On the institutional segment, there will be some kind of discontinuity. From the retail and HNI perspective, there are two elements of this transaction or the relationship the distributor has with the customer. One is the research/advice part where he gives some advice. And the second thing, which people forget, which is much more larger, is housekeeping – redemption, giving statements, changing POA, changing bank accounts, etc. It is rare that an investor does not change any of his details or the relationship with the fund house. So, clearly there is a role or relationship between the investor and distributor. So, at least for the short term, I don’t think there will be any significant impact. The business will not suddenly fall off the cliff.
Every intermediary has to add value. If he does not add value, he will become extinct.
Moderator: SEBI has already talked about a long term policy for mutual funds because too much of a dynamic regulatory environment doesn’t do good to anybody. If you were to suggest two areas to the regulators, what would that be?
Barve: I don’t know whether it is to be addressed to the regulator, but clearly it needs to be addressed to people who make tax laws. In our recent meeting with the finance minister we made this point and I hope it will be accepted when the time is right to consider. It is very important that financial investment products, essentially savings or investment products (with broadly same criteria or features), should get the same tax treatment irrespective of the manufacturer (insurance company, mutual fund or under NPS). If we are provided with that level playing field, then we can make a meaningful contribution to generating long term savings.
The other thing is stability in the regulatory regime. In India nothing incentivises investments as much as tax incentives. We have a history where certain investment products have grown only because of tax incentives and the fund industry deserves those incentives on a level playing field.
Sikka: How do you take these mutual funds to the retail investors in smaller cities? This needs to be captured in the policy whenever it comes. Tax breaks have already been covered. I will like to just touch on one thing which is more of communication strategy. The idea is to make it simple for the investor and in a language which the investor understands. SEBI has already done a lot of other things, but education and awareness should be one of the important things in the road map.
Shah: The process of investing in mutual fund needs to be simplified. If a bank has got complete details about an individual, when I apply for a mutual fund can I just add two more rows, viz which fund and how much. If we apply our mind, the on-boarding process can become very easy for somebody to invest in mutual fund. Let’s decrease our costs, so that the final investor benefits out of it and then the industry will also do well.
Bhattacharya: What we are seeing is that essentially a person might be a very successful professional, but might not know the basics of financial planning. One thing that I would like to be included is, especially in the secondary school, chapters on financial education. Second thing is liberalising third party investment mandates, especially for the pension and the insurance base.
Venkataraman: The biggest thing is to give the industry a level playing field. We have new pension schemes, life insurance and mutual funds and everybody agrees that the retirement pie is the biggest available. So, it is extremely important for all the players to have a level playing field with the right/same kind of fiscal incentives so that nobody is put at a disadvantage. If that happens, I think the industry will have a great future.
