The recent proposals by the Indian market regulator on how mutual funds can charge commission on their investment services has the Street divided. Christopher Wood, Global Head of Equity Strategy at Jefferies, is in the camp which feels that the SEBI proposals could hurt the industry in the long run, thus offsetting whatever benefits unitholders may get in the short term. Over the last few months, SEBI has been tweaking rules to bring about more transparency in mutual fund charges and also placed caps on the charges.
Given that investors have the opportunity to invest directly in mutual funds and also in ETFs, Wood wondered why pricing cannot be left to market forces.
“The current cost does not seem excessive, most particularly when compared with the days of 5 percent front-end loads in the mutual fund industry, be it in America, Europe or Asia,” Wood said. "Meanwhile the continuing pressure on fees in the highly regulated world of asset management of listed companies is in stark contrast with the regulators’ lack of focus on the fees being charged in the essentially unregulated world of private equity.”
Wood likened the SEBI proposals to the Markets in Financial Instruments Directive (MiFID II) enacted in 2018, a European regulation that unbundled research from transactions. Under MiFID II, investment banks must charge fund managers an explicit fee for research rather than bundling the cost into trading commissions charged to clients. That regulation, researchers and analysts claim, led to fewer research analysts to cover a firm.
While “not as negative as MiFID,” the aim of SEBI's proposal is to reduce the total expense ratio (TER) charged by mutual funds by 15-20 basis points, with larger asset management companies facing a higher impact than smaller ones.
'Obsession with costs'
The proposals made by SEBI are in the discussion phase and the regulator is awaiting responses from industry participants. Most have agreed with the rationale provided by the SEBI barring a couple of proposals that they believe will be difficult to implement. This includes proposals on performance linked TER.
Wood said in his weekly newsletter, Greed & Fear, that if the move is implemented it will increasingly damage the profits of what is a clear success story, referring to the outlook of the asset management companies. “The proposals reflect an obsession with costs,” he added.
Prakhar Sharma, another analyst with Jefferies, estimated that SEBI's consultation paper on new fee caps on mutual funds can impact profit by 13 percent, though part of it will be passed on to distributors, brokers, RTA & other partners.
Mutual fund companies have also shown confidence that they will be able to pass on 75-100 percent of the impact, said Kotak Institutional Equities in a recent note.
As a precaution, the celebrated fund manager who has expertise in investing in emerging markets, removed Computer Age Management Services (CAMS) from long-only India portfolio and added AU Small Finance Bank.
CAMS is one of the two prominent registrar and transfer agents (RTAs) for mutual fund companies.
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