In the last few months, the mutual fund industry ? and the news pertaining to it ? has largely been centred on the abolishment of entry loads. In my earlier columns, I have poured insight on how this new decree will affect the way funds are sold. But now that August 1, has gone by, taking the entry loads away with it, I would like to concentrate on other aspects of SEBI?s new regulations that have received little attention.
Primarily, the issue that needs to be focused upon now is another kind of load ? the exit load. The main reason behind having exit loads was to deter investors from premature or frequent redemptions. Exit loads have existed for as long as entry loads have, but in the former?s presence, the latter wasn?t of much importance. But now with entry loads gone, the importance of exit loads has increased. Earlier, exit loads in funds were generally around 1% for investments withdrawn within a year and zero afterwards. For larger amounts, ranging from Rs 2 to 5 crore, the exit load was lower.
Now, fund companies have tightened these parameters. The one per cent exit load period has been enhanced to two to three years, amount limits have been lowered and in certain cases, the exit load has been increased to 2% as well. While these are recent measures and it is possible that exit loads might evolve with time, but one thing is for certain ? exit loads are going to more important than earlier and an industrial standardisation can also be expected.
Under Sebi?s new regulations, funds can now use up to 1% of the exit loads for their own expenses. Fund companies might now even pay fund distributors an upfront 1% commission. This would get compensated when the investor redeems within a year.
Another part of the new regulations that needs to be focused upon is Sebi?s move to eliminate or reduce ?churn?. Churn is the practice of distributors of getting investors to change and switch money between funds frequently. Each switch would mean a commission earned for the distributor, which was often as high as 3 to 4%. Now, with entry loads gone, this commission would go down to one per cent. This would mean decreased motivation for a distributor to make an investor ?churn? his fund portfolio, which is Sebi?s intention. However, some unprincipled distributors might just advice an investor to switch funds three times instead of one. This is something that investors should be wary of. Fortunately, Sebi has given investors a tool to protect themselves against ?churn?. Under the new regulations, distributors are now obliged to reveal to investors the commission that a fund company pays them. They even have to reveal the commissions that other fund companies would have paid them.
However, how much truth comes out of your distributor is something that Sebi can?t control. It?s up to the investors to make sure that the advice they receive is actually in their interest. But yes, these new regulations will certainly go a long way in benefiting investors by improving the transparency in mutual fund investments.
?The author is CEO, Value Research