: The mutual fund industry in India has been on a long and shallow learning curve. Mistakes have been made that have cost investors dearly and the bull and bubbly stock markets have generated returns that have hidden many of the underlying problems. For all talk of educating investors on how mutual funds work, most of us remain ignorant on the murky workings of the industry — and this ignorance has bred huge and undeserved profits for many. In some instances, ethical business practices have been shelved: why take the difficult road when there is an easy short-cut? And the short-cut was entry and exit loads: these are the charges that investors have to bear to get into a fund or to leave a fund.
The concept of an entry load has been so abused over the past few years that the asset management industry in India has turned itself into an asset gathering industry. The money that you, as an investor, give to a fund house to invest in stock markets is partially diverted to compensate the distributor who got you into the fund. Your money is not earning you money but is used to fly someone to Bangkok for a holiday.
It does not end there. Once the investor is in the fund, the incentive to the distributor to keep him there exists — but it is a ‘small’ 0.5 per cent commission, known as ‘trail commission’. But that is not exciting enough for many aggressive distributors. Many of them make investors buy the next new fund on which they get that wonderful 5 per cent entry load as a commission. To put an end to these malpractices, Securities and Exchange Board of India (Sebi) has now proposed as an industry standard what Quantum Long Term Equity Fund did in March 2006: allow investors to invest in a mutual fund and not pay distributors any entry load.
The Sebi proposal is a diluted version of what the law should be but it is a small start. Not many investors come in directly — maybe less than 10 per cent. So there would be 90 per cent of investors who would still be ‘churned’ and dragged from fund A to B to C within one year, losing probably 10-15 per cent of their capital along the way. When markets are up, 30 per cent in a year, the loss due to that entry...
