Regulations hurting India's mutual fund industry: Fidelity

Ashu Suyash is managing director and India country head for Fidelity International. She joined in late 2003 to start its asset management business in India. Prior to that she was head of strategy and business development for Citigroup.

Can you outline the performance of India’s mutual funds industry over the past year?
It has been a defining period for India’s mutual fund industry. We have seen unprecedented regulatory intervention and most of it has not been very helpful for the business. This is reflected in the net sales numbers for equity funds, which were negative $1.3 billion for the calendar year to August 31, 2010. Overall industry net sales for all funds has also shown a down-trend from about $30 billion in 2009 to $2.7 billion to end-August 2010, despite strong gross sales in short-dated fixed income funds and hybrid products.

Given the country’s surging economic growth and rollicking stock market in 2010, why has industry performance been lacklustre?
A key detractor of growth has been lack of distributor interest in selling equity mutual funds given unfavourable economics versus other investment products. Further, investors have been nervous about markets correcting and hence pulled out in anticipation of a correction. A large number are waiting for a correction, which has not happened, and continue to wait on the sidelines.

What have been the consequences of recent regulatory changes in the industry?
Many of the regulatory changes around valuations, cash funds, better disclosure etcetera have been very welcome and helped to raise the bar for the mutual fund industry. These coupled with removal of front-end loads across all funds make mutual funds the most cost-effective and transparent investment option for creating long-term wealth. However, there is a lack of level-playing field for the industry. Most distributors find advising their clients either to invest or stay invested in mutual funds less remunerative. This has resulted in the industry not growing during one of the best periods in the history of India's equity market. Even end-investors have missed out on this wealth creation opportunity.

Surely regulators were simply seeking greater transparency and disclosure, which is a good thing, right?
We believe that regulatory moves that improve transparency and disclosure work very well. I wonder, though, if abolishing entry loads was the only solution. Investors benefit over the long term when they are offered investment options which are cost effective, transparent and compare favourably on the basis of investment merit. One of the issues is that similar investment products have differing regulatory requirements and disclosure standards, apart from vastly different commission structures as in case of mutual funds versus portfolio management solutions versus unit-linked plans. This, perhaps, leads to selling that uses this regulatory arbitrage window and may not always be in the interest of investors.

So what impact has this had on marketing efforts and profitability for the mutual funds industry? Were the regulatory changes ultimately beneficial for the customer?
There was a complete lack of level playing field as far as mutual funds and unit-linked insurance plans (Ulips) are concerned, even before the zero entry-load regime took effect. Following this change it has become worse. If you took out the pricing anomalies between the two product classes and allowed them to be sold on individual merit as investment options, I am sure that mutual funds would have scored better. The liberal pricing regime for Ulips has allowed them to be marketed more aggressively compared with mutual funds, which has had caps on loads and total expense ratios for the last several years. Apart from this, there is the insurance element in Ulips which appeals emotionally to most consumers because of the protection angle attached to it. However, customers are perhaps not aware how small the protection on account of insurance is. This lack of awareness is why we see many customers not averse to paying premiums for 20 years in market-linked insurance products but unwilling to continue their systematic investment plans (SIPs) in mutual funds in adverse market conditions. The key point of note is that there is scope for insurance companies and mutual fund companies to work together and create quality products like wrappers for end-customers. A framework that supports such partnerships could go a long way in growing both industries by letting the end-customer benefit.

What other developments have changed the shape of the industry, for better or worse?
A key development is the evolution of online platforms both for investors and intermediaries. For investors, these offer convenience, access to a variety of online tools, calculators and knowledge aids which help them to learn about investing, plan as well as invest in a hassle-free way. For intermediaries like IFAs, the platforms help them to grow their business and serve clients better. Fidelity was among the first few asset management companies in India to launch an online platform for investing in mutual funds. The insights that we gained through our global experience have helped us broadly to categorise the needs of online investors into a) Need for knowledge about personal finance and b) Need for simple online investment options. Our website is aimed at helping existing and potential customers define, prioritise and plan for financial goals based on their life stage.

One barometer of the health of the industry is new product launches. How has India’s mutual fund industry performed in this regard in 2010?
New fund offers in equity mutual funds came down significantly in 2009 as an outcome of several regulatory changes and interventions and the trend continues in 2010. However, we have seen a steady stream of new fund offers in short-tenure and fixed-tenure debt funds over this period and most of these launches have been able to mobilise significant assets.

My understanding is that only about 5% of household savings are invested in mutual funds. Why is this so low?
Low participation in mutual funds from individual investors follows from the low percentage of household savings going in to capital markets as a whole – less than 5%. Also a large part of the retail money in mutual funds is in equity products. Unfortunately, investing in equity mutual funds is still viewed as an option to make some quick gains by many investors and they try to time their entry and exit with a view to maximising their gains. There are also a large number of investors who are not looking at short-term gains but get easily unnerved by the downturn or volatility in equity markets and try to exit their equity fund investments in a hurry before their investment goals are reached. I strongly believe that debt funds can be offered as a suitable investment option to first-time individual investors in mutual funds and there is a need for creating this awareness among them. That could pave the way for more long-term and sustained flows in mutual funds. The challenge for the industry is bringing new investors in to the mutual-fund fold and moving them up the risk-reward grid. In comparison with many other nations, India is at a disadvantage in that mutual fund companies are not allowed to manage retirement money, which makes up a big portion of overall household savings. Consider this: the 401k in the US, which is an employer sponsored defined contribution retirement plan, held 55% of its assets in mutual funds at the end of 2009. The Individual Retirement Account (IRA), which is a tax-advantaged voluntary retirement plan, had 46% of its assets in mutual funds at the end of 2009. At an overall level, 58% of retirement assets in the US were in equity funds at the end of last year. In the UK, individuals saving for retirement through Self Invested Pension Plans (SIPPs) are able to include mutual funds as a means for creating retirement corpus.

So what needs to be done to reverse this trend, at an industry and an asset management company level?
In my opinion, first, the mutual fund industry should get its due share of assets to manage which are currently splintered across pensions, insurance and other pooled vehicles. At the same time, as an industry we need to work towards a deeper and wider penetration of the Indian market. With the maturing of the industry and more and more players coming in, there is, in any case, a growing outreach that covers a greater geography. We need more investors in the top 10 cities to come into the mutual fund fold and we need to bring in new investors from the tier-1 and tier-2 cities as well. Investor education remains the imperative for this to happen. At Fidelity, our investor education efforts have focused on key themes such as equities as an asset class outperforming other asset classes in the long term, asset allocation, benefits of the systematic investment plan, the power of compounding and how time in the market, not timing the market, is important.