Revision of expense slabs by the regulator, the push towards passives, and the anticipated entry of several new AMCs translate into a greater focus on cost. Do you believe there is potential to drive the costs (expense ratios) down substantially from the current levels while still running the business profitably?
The regulator has been taking several measures in the interest of investors and the overall industry, including all market participants. This trend is not different from the US market, wherein expense ratios have decreased over the years. There are two ways the impact of expense ratios could be seen: (a) keeping AMC profitability in mind and (b) from the investor's perspective. All AMCs have the option to scale up their AUM so that the loss in the expense ratio could be compensated with the increased AUM and this will work well as long as per unit economics is still profitable. Our responsibility is to provide the right kind of products, meeting investors' varied investment requirements at an appropriate cost.
However, such reduction should be done in consideration of various AMC expenses, including distribution, operational and infrastructure costs required to reach out to investors to onboard and service them. We believe that investors will follow an asset-allocation strategy to balance their portfolio and in turn, average fees per unit would also come down. AMCs will have to bring different investment products covering varied asset classes and geographies to sustain fees for active funds.
How is the increasing proliferation of direct plans and the new age platforms changing the dynamics between the three key stakeholders - the investors, the distributors, and the manufacturers (AMCs)?
There has been a steady increase in the use of the digital medium across industries in the last few years - be it consumer goods or entertainment or financial services. With the impact of COVID restrictions, digital avenues have witnessed a geometric rise in adoption more as a necessity rather than an organic choice. Due to lockdowns and restricted movement, investors expect a digital transaction solution as a hygiene factor. Both AMCs and distributors are now expected to have an easy-to-use digital front end (preferably mobile) to onboard and retain investors. This new expectation has benefited the AMCs working for the last few years for a seamless digital experience for the transaction and portfolio tracking.
However, the reduced usage of the in-person channel for the transaction has made financial advice more difficult to convey. While investors are susceptible to invest in the fund not matching their risk profile, the increased flow of information makes them more aware about products and returns and helps them understand the distributor's value addition to the portfolio. Many large distributors have adopted the advisory route through RIA (registered investment advisor) and they are charging advisory fees rather than distribution fees. The relevance of advisory has certainly gone up, especially among more mature investors. We believe that any new change finds the right balance among all participants in the end. The most important aspect is that any change that happens to the industry must have the sole objective of attracting more new mutual fund investors for financial planning and wealth creation.
The precipitous fall in interest rates has spelt big trouble for regular income seekers. Do you think the fund industry can better serve this investor segment and in a cost-effective manner? What's your big idea to solve the investors' income problem?
While it is true that interest rates have fallen, thereby impacting the regular-income seekers, there are selective, attractive opportunities for investors to earn reasonably higher returns and regular income thereof. The medium to the long end of the yield curve (read five years and above) offers relatively higher yields due to concerns around the fiscal situation, higher borrowing, high inflation, etc.
Investors could take advantage of the situation and consider products that predominantly invest in this part of the yield curve, particularly those products where investments are made around a specific maturity and the maturity keeps reducing (or rolled down). One need not match the exact time horizon of investment with that of the maturity of the product. A five-year product may be suitable for a three-year time horizon and a 10-year product could be considered for five years. The underlying would be sovereign securities (G-secs and or state-government bonds). Hence, there is no credit risk in such products and the duration risk gets addressed if the time horizon is matched as above.
There are plenty of opportunities within the highly regulated and transparent mutual fund industry for investors to choose from in the current environment, which may help them enhance return without subjecting to unwarranted risks.
Many people these days take to equity investing by owning the stocks directly. Innovations like Small Case are further catalysing this trend. What implications do you see on the businesses of mutual funds? Can they pose a challenge to the growth story you would envision for the fund industry?
Smallcase is a technology platform that allows investors to execute a basket of stocks. This would still mean taking direct exposure to stocks, whether purchasing them individually or through a basket, which has its own risks and investors should be aware of that. There is no regulation governing buying/selling of stocks by individuals and as long as investors have a broking and demat account, they can trade in stocks or a basket of stocks.
On the contrary, mutual funds are a common investment pool, which are regulated by SEBI. Over and above this, an important aspect of mutual funds is that investors are not liable to pay any STCG or LTCG (short-term/long-term capital-gains tax) when a fund manager buys/sells stocks in the scheme, but only when they sell their investments. However, in direct investing in stocks, investors are liable to pay STCG and LTCG if they churn the portfolio frequently, which can impact returns.
We do not see innovations such as smallcase as a threat because there will always be a segment of investors who want to invest directly in stocks and others who trust professional mutual fund managers. We believe that these innovations help in expanding the market and further educating investors on the benefits of investing in a regulated product vs just a basket of stocks.
Rapid-fire questions:
- Investment guru/manager you admire the most: Larry Fink, Chairman and Chief Executive Officer, BlackRock
- Business leader you'd like to emulate: Azim Premji.
- The most rewarding financial investment you've ever made: Investing in mutual funds the day my daughter was born.
- Money mantra you swear by: Control your emotions and stay invested
- If not a money manager, you'd be: Running a restaurant.
This article was originally published on November 03, 2021.
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