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Markets are rising. Be alert to hard sales

Unless you have a fee-for financial planner and are on a direct plan, you need to be careful of your mutual fund vendor


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Has your mutual fund agent, adviser, wealth manager, or whatever he calls himself, asked you to 'switch' from one scheme to another? A friend recently WhatsApped me, asking if it was okay to 'switch' schemes in the same fund house. Her mutual fund agent advised her to move from an under-performing fund to an out-performing one. He also told her that he does not earn any commission on the 'switch'. He then moved her from a large-cap fund of the fund house to a similar scheme of the same fund house. I asked her to check with him again: did he earn any commission on the 'switch'? Ask for a commission statement. She called back furious. Yes, he does earn from the 'switch' and no, he had not shown the statement before she insisted that he disclose it. She was surprised to see what he was earning.

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This is a note to all investors in mutual funds-the old ones and the ones coming in now. There is the rumble of expectation about a bull run in the offing but there are some things that you need to make a note of. First, remember that the best predictions can go wrong. It is best to take a comfortable equity exposure. No matter what the experts say, think about how much loss you can digest. Our investments are supposed to make us more secure, not less. Do not start breaking your fixed deposits to 'get into' stocks and funds just because the markets are rising. Second, unless you have a fee-for financial planner and are on a direct plan, you need to be careful of your mutual fund vendor. This is not to say that the hundreds of independent financial advisers, who have done fantastic work, are compromised. But this is to say that in every market there will be a large number of agents who will spoil the image of the entire space. Let's look at some data. In the chart, you see the gross and net inflows into equity-oriented mutual funds over the past 14 years. Gross inflow is the total amount of money that has entered equity-oriented funds. Net inflow is the amount that remained after redemption. When financial products have sales commissions linked to fresh purchases, agents typically sell existing investments to put the same money into a new scheme; harvesting the commission. The data shows that for years mutual fund sellers (agents, banks, and corporate distributors) seemed to be harvesting commissions. 

In 2009, the Securities and Exchange Board of India (Sebi) banned upfront commissions in mutual funds. The industry began 'upfronting' trail commissions. Then firms launched 3- and 5-year closed-end schemes that upfronted the entire trail commission over the years into an upfront commission. This practice came under Sebi's gaze and upfronting was capped at 1% last year. The data shows an interesting trend- around the time that the systematic investment plans (SIPs) became popular with retail investors, the gap between the gross and net has narrowed. The net inflow chart is almost vertical. But look closely, and the line is beginning to flatten again-meaning that redemptions are again increasing. Those who are investing in equity funds need to have a horizon of at least 5 to 7 years. Some people like me have a lifetime horizon and only milk the fund when we need to.

Remember, as the frenzy around market booms gathers speed, fund houses will start hawking new products and themes. Agents will find innovative ways to get your consent to churn you. 'Switching' into the same fund house is just one of the strategies that came to my notice. There will be many others. If you are invested in an equity fund, you will normally need to exit when you near your goal or if there is a situation of underperformance of a particular scheme. Don't blindly listen to the agent. Use Google to know more about the old fund and the new one the agent is offering to put you into. Till the industry can find a way to incentivise sharp sales, the churn will continue. The upfronting window must shut down as well.

In arrangement with HT Syndication | MINT

Disclaimer: The views and opinions expressed here are solely those of the author and do not necessarily reflect the views held by Value Research and its employees.

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