In 2014, 111 equity diversified funds were launched, and amongst them 91 funds have declared their asset sizes. From these 91 funds, 61 are closed-ended funds. These closed-ended funds have also gathered more money than the open-ended funds. They have gathered ₹13,154.36 crore as compared to the ₹8,837 crore collected by the open-ended funds. This gives an impression that closed-ended funds are getting popular among investors. However, the reality is different.
Closed-ended funds have a minimum lock-in period of three years. This lock-in period offers extra comfort to fund managers as they have money for a long period, which helps them offer better returns. Better returns ultimately benefit investors. However, the reason for the greater popularity of closed-ended funds seems to be the fact that these schemes have been pushed aggressively by fund houses and mutual fund distributors.
The reason closed-ended schemes are pushed hard is that distributors and agents get high upfront commissions for the investments made in closed-ended funds. Upfront commission is the commission which is paid by an asset management company to its agents in the first year of investment. It is paid by an AMC from its own kitty and it doesn't impact investors. As there was no cap on the upfront commission of distributors, AMCs doled out commissions as high as 8 per cent to their distributors for selling closed-ended schemes.
In order to check this practice of paying high upfront commissions and to stop mis-selling, from April 01, 2015, Association of Mutual Funds of India (Amfi) has put a cap on the upfront commission in mutual funds at 1 per cent. The trail commission will be decided by each fund house independently. Trail commission is paid to mutual fund distributors during the time an investor stays invested.
The practice of paying high upfront commissions was also distorting the marketplace as large fund houses, with deep pockets, were able to incentivise distributors more for pushing their schemes. This worked against smaller AMCs.
The capping of upfront commissions has disappointed many distributors. It may also affect the inflows in the NFOs of closed-ended equity funds. The step doesn't seem to have gone well with even all the fund houses and has left a few frowning.