I was delighted to read newspaper reports saying that three sponsors had got their mutual fund licences this week and that many others are in line for theirs.

Indeed, the argument for encouraging competition in the industry was that retail equity penetration was not happening fast enough under a single player and more players would mean better inclusion of common savers in the capital market.

There are more than 40 players. To date, some 67 sponsors have taken mutual fund licences and nearly one-third have exited the business or become passive by bringing in one or more partners. Way back in 1964, when UTI, the first mutual fund was set up, it had an initial capital of Rs 5 crores. Three decades later, in 1996, the minimum on-going networth requirement for new entrants was set at Rs 10 crore and that is the requirement even today.

The argument for a low capital requirement was that, unlike insurance, mutual funds did not need a guarantee corpus, and a low-entry barrier would ensure more players, healthy competition and market penetration.

Let us look at the pressures that mutual funds face. They are supposedly in the retail business, but usually have to achieve market penetration with a fraction of the capital that an insurance start-up has at its disposal.

The low capital requirement sets unrealistic expectations that mass markets can be reached via third-party distribution alone, on a very low investment. Some approach this venture with the attitude that many had when they entered the “dot com” business: That is, dress it up and sell it at a valuation. When this does not turn out to be as easy as it looks, they hibernate it. The business then becomes an embarrassment and a distraction.

Harmful approach

This approach has been harmful to the industry as a whole. In the perception of many, it is socially irrelevant as an employment engine or even an engine for fuelling capital market participation among the masses, and commercially irrelevant as a self-sustaining business.

But a few mutual funds across a cross-section of sponsor types have shown that the race can be won by the slow and steady method. The temptation to take the quick route will always exist, but with a strong capital base and a focused long-term approach to the business, a mutual fund can make a meaningful difference and yet be a solid revenue-earner. How can we get more sponsors to either adopt this approach or stay out of the industry? The regulatory solution is quite simple.

Tied agents

First, there is the issue of increasing cost of intermediation, consequent on intermediation becoming increasingly oligopolistic. Tied agents are the answer. Like insurance, if the fund house has some exclusivity, it can invest in building new agents rather than fighting for shelf space with a few top ones. Extensive training, branding support, some fixed remuneration and infrastructural assistance would be worth it if the person has some exclusive arrangement .

Today, no AMC wants to make this investment, since the agent can take training and then sell the easy ones — the top brands. . Insurance today has over 30 lakh agents. Imagine the potential of the mutual fund business: Lakhs of skilled persons would be prepared for employment/self employment. On the other side, for the mutual fund, nascent players would focus on building long-term sustenance rather than taking the short-cut and buckling under the weight of high salaries and selling costs. Tied agents would also reduce the unhealthy competition on commercials that is becoming a cause for concern for the regulator.

Retail model

Second, while the temptation of low hanging fruit will always be there (institutional investors, foreign investors, PF, and so on), with sizable capital we would simultaneously be able to build a strong retail model. A basic capital of Rs 100 crore, and the need to maintain net worth of at least Rs 50 crore for AMCs would be a good first step in the right direction. Serious sponsors would enter it with realistic expectations.

Finally, the commercials have to improve. Low-to-negligible charge to the investor relative to other financial products; expectation that bulk business will subsidise micro-retailing of the financial product without the benefit of differential treatment such as better pricing, service, taxation, and so on; and the compulsion to divide the gross fee into management fees and expenses.

In a nutshell, the only way to ensure that our industry doesn't become the Rs 10-crore joyride for the sake of corporate diversification, is to create enabling regulations to allow for tied agents, raise entry barriers through higher net worth requirements and improve the commercial model, without necessarily raising cost to the investor, dramatically.

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