Ajit Dayal, Chairman, Quantum mutual fund has very strong opinions about the way mutual funds are sold in India. He did an email interview with Forbes India about the new SEBI guidelines for the mutual fund industry and also about Quantum Long Term Equity fund, his flagship equity fund which has the lowest expense ratio amongst all actively managed funds. Some excerpts:
Do you think the direct plan- that allows investors to invest directly in mutual funds will be successful?
The direct plan is one of the best things that SEBI has done for investors who know which mutual funds they wish to invest in. They do not need to unnecessarily pay large sums of money to distributors for filling in the forms. Calculations suggest that every time an investor places Rs 1 lakh in a mutual fund and uses a distributor to fill in the form, the investor is likely to have lost a Maruti car over a 15 to 20 year period – depending on what assumptions one makes about the size of the distribution fees. Investors must recognise that a mutual fund can have good returns at some point in time – but these returns are not known and are not predictable. Costs are known and defined. The lower the cost or the expense ratio, the greater is the amount of the investor’s money that finds its way into the market to generate returns.
Are you in favour of the direct plan or the distributor plan?
The direct plan offers every investor the lower-cost option. Distributors must earn money legitimately for sensible advice they pass on to their client base. The distributors play a crucial role in the financial service industry and they must get rewarded for it. But their rewards must be clearly stated and not opaque. Distributors advice must be based on what is good for the client, not on what gives the best commissions. As long as there is advice given and as long as the fee is clearly stated and known, the distributor plan will be welcome.
Your equity fund has operated on an expense ratio of 1.25%. Will you continue to maintain this low ratio and how do you manage it while other funds cannot?
Our objective is keeping our costs low – and transparent. It is a shame that we are the only fund house that has chosen the path of refusing to bow down to the power of the distribution channels. Our costs are lower because we have no distribution fees. We have not paid for the distribution community’s holidays to Singapore and Malaysia, we have not given any distributor bonuses like cars and suit lengths – all these costs used to be passed on to the investors; without the investors knowing about it! As a fund house we refused to be part of this system and have “suffered” the label of being small. But we love that label because with that label comes the recognition of working for our investors, not for the high-cost distribution channels.
You are completely against the rise in expense ratio that has been allowed by SEBI (3% for funds that are lower than Rs 100 crore). But other mutual funds are saying that it is the step in the right direction?
A mutual fund should have economies of scale. If Maruti was to have a factory that can make one million cars each year but chose to make only 100,000 cars in a year, then the cost per car will be high because Maruti will have that larger fixed cost of its plant and its machinery being spread over only 100,000 cars. Now, let’s assume that Maruti was to run at full capacity and make one million cars. Then shouldn’t the cost per car reduce? The mutual fund industry must have lower cost with larger size. But here we find that the costs remain high irrespective of the size whether it is a fund with big corpus or a fund with small corpus. There are funds with AuM of over Rs 9,000 crore of assets but the expense ratio is 1.7%. The Quantum Long Term Equity Fund has assets of approximately Rs. 135 crore (as on 31st Oct 2012) and our expense ratio is 1.25%. That is because the other fund houses – have distributors to pay. Not that these fund houses are complaining, the larger fund assets allows better remuneration to all stakeholders, so everyone is laughing all the way to the bank – at the cost of the investor! Pay the distributors, but declare how much you pay them.
How will you expand into smaller towns (beyond the top 15) without a higher expense ratio? How much of your AUM in the equity fund comes from smaller towns?
At Quantum we have never restricted ourselves and always tried to reach out to as many people as we can. Even though we have our offices only in Mumbai and a recently opened presence in Chennai, we believe our state-of-the-art online investment portal is our branch that reaches out to every location which has an internet connection.
Nevertheless, our share of total AUM from beyond the top 15 cities is around 19%. We are proud of the fact that we have our investor base spread across all parts of India, right from Andaman and Nicobar Islands to Mizoram,Sikkim and other small parts of the country.
We believe what it takes to increase our investor count is not just an aggressive sales strategy but a thoughtful investment process that aims to secure the investor’s money and earn better returns.
In order to make investments hassle-free and convenient we offer our investors an online platform that is a complete paperless, allowing them to make investments with just a few clicks.
However to make investments easy for those individuals who are not able to access internet, we have a cheque pick-up facility available across India, so that investors don’t have to worry about submitting their applications or cheques to our office.
You say that you have managed to build the AUM based on a very small team of around 25 people while others require an army of thousands. What is it that you are doing different?
Since we last met, our team has grown. We now have 51 people who make calls and respond to emails besides servicing our Customers. What we are doing differently is using technology to reach out to people. We are not selling the Quantum Mutual Funds, we merely encourage people to think about what we are saying – and doing. And then make a more informed decision. Our team does not have a monthly or quarterly or annual target for collecting money. Our approach is to ensure that our team-based research process and our fund managers make the best investment decisions with a long term view. The marketing and “sales” people have to explain why we do what we do; the investor service and compliance teams have to ensure that we are not breaking any laws and, in fact, are setting ethical standards of practice that go beyond what is required. As a mutual fund house our priority is to safeguard our investor’s money and aim to earn maximum returns for them and not earn attractive remunerations for ourselves. We ensure that the members of our boards have the freedom to ask us anything and reprimand us if we stray from our objectives. We are the only fund house in India where all the members of the Board of Trustees are independent.
How much of your equity fund AUM is associated to SIP money?
Our AUM is a pure retail AUM. Since all our investors are retail investors, it has been our understanding that SIP Investments work well with retail investors as they do away with the hassles and paperwork of investing through other modes of investments and are popular for reducing risk because of ‘Rupee cost averaging’. At Quantum our SIP starts from as low as Rs. 100/- and transfers can be made on a daily, weekly, monthly or quarterly basis depending upon the SIP chosen by you and the options available. Therefore, keeping with the trend of retail investment the share of SIP money and SIP investors is quite high as compared to industry average. As of September 30th, 2012 around 60% of our transactions were processed under SIP while around 40% of our folios are under SIP.
Do you believe that an advisory model is better than the distributor model? Why?
Certainly, it is this belief that backs our pride in being the only fund house in India to avoid distributor route. While we always say that we are not against the distributor route but we are against the lack of transparency in the distribution system. We are not against paying distributors commission – our problem is that the commission paid is not disclosed.
On the other hand with our direct to investor model we don’t “sell” our schemes to our investors, rather we want them to understand the scheme thoroughly and decide for themselves without getting influenced, unlike the distributor route whose only aim to earn his commission. What makes us stand apart from the distributor route is that we aim to educate our investors through various mediums like our online communications, relationship managers, Path to Profit meets held in different parts of India, etc. As a process, we have always tried to give our investors a thorough knowledge of what is it that they are putting their money into. Our relationship managers don’t force their product to the prospective investor, but will explain him the pros and cons of investing in such a scheme and let him evaluate if the investment objective of the scheme matches to his own investment objective and that ultimately his goals are met. Here our strategy is to garner informed investor who may invest a lesser sum rather than just gathering a huge corpus. In that sense we ‘advise” investors.India needs a generational change of discarding the old “your money is my money” distribution model and moving to a more transparent advisory model where the client knows how much the distributor or advisor is getting paid. And the service – the advice given – can be measured for its outcome.
Do you think that the step for higher expenses will be detrimental to the mutual fund industry?
Investors need products that are simple to understand, not injurious to their financial and mental health; the products need to have sensible risk-return characteristics and they should be low cost. Anything which strays from this approach is bad for long term investors. Besides mutual fund products needn’t be sold but investors should invest based on their investment objectives and risk appetite. The Industry is in panic because the number of folios and the number of investors have been declining. Of course it will: bad products coupled with push-selling techniques lead to bad outcomes. The solution for making the mutual fund industry flourish is to do what is good for the investor. The mutual fund industry has been losing out to the life insurance industry which is a shame. The ULIP products also had hidden costs. Mutual funds are superior products: there is reporting, there is diligent overview of performance, there is liquidity and ease of entry and exit, there is a track record and a history of performance. But the mutual fund industry has unfortunately surrendered to the high AUM targets led by distributors and, in return, got their shot-in-the-arm boosts of higher AUM. But there was mis-selling, churning and pushing of high-cost products. India needs its retail investors to invest in the stock markets. But we, as an industry, have to focus on the long term.
Many people say that “Had you used the distributor your AUM of the equity fund would have gone up by 5 times since your performance is good”. They say that investors are missing on a good fund. Your comment.
Had we used a distributor our expenses would have been higher by at least 2% each year, and our track record would have suffered – then this question wouldn’t have probably been asked! No, we did the morally correct thing: we refused to be part of the opaque relationship between the fund houses and the distributors. Our customer base will grow, provided we keep our costs low and work in the interests of the customers. Of that we are confident. We believe that doing good things results in good outcomes – for all – over the long term.
How do you look at the mutual fund industry five years down the line?
We are optimists. We believe that good will win over the not-so-good. And this makes us believe that what we are doing alone today will be the mainstream, the norm, tomorrow. The mutual fund industry will wake up and realize that there is a moral path, a correct path, which we need to walk on. Having said that, we are realists! Many of the global financial firms in business today should have been shut down after the collapse of Lehman and AIG and the exposure of their criminal-like conduct. But they have become stronger and their lobbyists have the ears of the regulators and the politicians – globally. The financial world is more dangerous today than it was in 2008. So, the dreamer in us says the mutual fund industry and the crucial distribution channels will be booming for all the right reasons. The realist in us makes us warn you to “watch your wallet”!