Come October 20, SEBI’s new guidelines for investment advisors will come into force. They will continue the business of distribution, but with one very important change: they cannot continue to be wolves in sheep’s clothing. In other words, they have to be true to the label and state what they are. If they are brokers or distributors, they have to clearly say so.

Earlier, people projected themselves as ‘investment advisors’ or ‘financial planners’ even though all their earnings came from distributing financial products. I know of at least 100 firms engaged in the business of brokerage or distribution but having the word ‘advisors’ or ‘planners’ in their legal names.

This change is a revolution in the advisory business. Only those who are remunerated by clients in the form of fees will be able to call themselves investment advisors or financial planners. The entire business model of these firms will be shaped accordingly.

If an entity registered as an investment advisor receives commissions for any product that it sells based on its advice, it has to be transparently disclosed. In fact, the guidelines make it clear that advisors should not receive any part of their compensation in the form of commission.

Once an entity is remunerated by the investor in the form of fees, it can potentially use any product while executing a client’s financial plan. Thus, you could find financial advisors hunting around for the best interest-paying one-year deposit for their clients, or for the cheapest home loan. India is the second country in the world, after UK, to be implementing this regime.

Finer details

Since January 1, 2013, the entire financial system of UK has moved to a fee-based advisory model, where no financial product provider is allowed to pay commission to a financial intermediary; the only mode of remuneration is through fees from clients. This virtually metamorphosed the thought process in the industry as everyone had to scrap their old business models and re-invent the new ones.

We have to see how the UK experience pans out as the implementation there has been more decisive, covering the entire industry. In India, this is still a voluntary effort, as financial intermediaries can choose the business model they want to follow — whether they want to be financial product distributors remunerated by commissions, or investment advisors remunerated by clients in the form of fees.

The proposition in both cases will be very different. You may find the same business house offering both services as part of a separately identifiable department or separate legal entity, as allowed by the guidelines. As an investor, your first task is to clearly identify who you are dealing with. It would be fair on your part to seek a clarification if somebody presents you a visiting card with the name of the firm as XYZ Investment Advisors.

You should ask for their SEBI registration number under the new investment advisory guidelines and how are they holding themselves out to be financial advisors, as they may very well be a complacent entity that has still not absorbed the magnitude of the guidelines and is a financial distributor remunerated by commissions.

The new regime comes as a breath of fresh air for investors who want purity of intent from players in this business — who do not mind paying fees for advice, but want complete transparency and disclosure of risks in each investment option. Before any investment scheme is recommended, a complete financial situation analysis of the client would be done, looking at their cash inflows and outflows.

This is virtually like appointing a Chief Financial Officer of your personal life. You give your investment advisor the respect that befits a professional, same as you give to your family doctor or lawyer and you remunerate him the same way in form of fees. It would be bizarre to even think of a lawyer getting remunerated by a company against whom we are fighting a case. Then why, in financial advisory, do we not treat an individual as a professional and remunerate him/her in the same way?

A win for investors

The investment advisory guidelines are a new dawn for investors. The onus for making this change successful is equally on you as an investor — by deciding how you want your financial intermediary to be remunerated —, by commissions paid by product providers or by fees through a cheque written by you.

We need to clear our heads of all past experiences and make a fresh start. I am confident that this is the beginning of something positive for the financial advisory industry.

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