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Mutual funds are right for you, but beware of mis-selling

Last year at the beginning of September, Wells Fargo, one of..

Last year at the beginning of September, Wells Fargo, one of the finest banks of the US got its reputation plummeted. It was revealed to have opened an enormous number of potentially unauthorised retail deposit, current (checking) and credit-card accounts.

As I read reports it said it was Wells’ CEO mantra to employees: ‘eight is great’, meaning get eight Wells Fargo products into the hands of each customer. But this directive proved burdensome for banks employees as they struggled to meet demanding quotas and satisfy even more demanding managers.

Therefore they began to cut corners and opened deposit accounts and credit cards for Wells customers without their knowledge or permission. While it was still not yet clear how much did Wells harm its customers and itself (of course they had to pay $185 million fine), they have once again hit the wrong cord as the bankers chasing bonuses swindled hundreds of their clients with inflated foreign transaction fees.

This is a classic example of what happens when companies support/encourage/ chase profitability and steep targets, thus falling in the trap of mis-selling.

Back in India mis-selling has become a major concern too. Recently the All India Bank Officers’ Confederation had urged RBI to take urgent steps to stop forced cross-selling of third party products like insurance and mutual funds in public sector banks. Further they added that businesses are focusing on cross-selling to ensure greater incentives.

This brings us to think if mutual fund industry is spared of this menace? While the regulator is making sure if investors are offered prudent investment options, mis-selling of mutual funds can be an alarming problem that needs to be taken care of. I don’t think blaming the distributors or their employees or employees of Insurance companies and AMCs is going to heal the damage.

The source of problem is at the management level. Incentivising and pressure to bring in more investors to achieve targets, win contests, reach the topline and thus get investors to invest in financial products is a perpetual problem. Distributors and employees are pushed to chase targets.

June this year, RBI had accepted mis-selling as an offence. According to the amended banking ombudsman scheme apart from banking services, a bank customer can now also complain about wrongly sold third-party products such as mutual fund schemes and insurance policies.

Investors in India are still opening up to mutual funds. Slowly they are starting to trust mutual funds and are ready to park their money and let it grow. However there is still long way to go. AMCs cannot forget history.

Equities as an asset class has the potential to give higher returns with higher risk. Indian stock market has the capacity to create wealth over long term, still mere 9.7 per cent of Indian household invest in mutual funds.

Below table shows where Indians park their money

Source: www.sebi.gov.in

Mutual fund industry is well aware of 91.3 per cent population that still has to invest in mutual funds. In order to make these investors invest in mutual fund, the mutual fund houses are leaving no stone unturned. Every distributor or sales people are given aggressive targets to be achieved. They are incentivised to perform and bring in more number of investors just like the Wells!!!

The vicious circle it is. But the story does not end here, the management is said to be facing pressure from the shareholders. In the race of more net-worth/valuation, shareholders are asking for more returns through more sales.

Moreover, there could also be some wise intent behind the dirty curtains of mis-selling. Indian stock market today needs Indian money and rather than FII money to have a sustainable growth. Mutual funds are one of the judicious mediums to enter stock market. The more investor AUM invested in equities the more self-reliant economy we built for India. However it looks like we are not exactly on the right track to get there. Mis-selling cannot be the answer to add more Indian money in the stock market.

However in my view rather, the correct way to attract investors is to educate them and offer prudent products to invest. Mis-selling even though not intentionally will only cause a repel effect. Understand; investors’ confidence is precious. In order to win we must take some measures to curb mis-selling that arises out of pressure to achieve topline.

Investors have already burnt their fingers in India. A perfect example of mis-selling is ULIPs, which is also known as one of the most abused financial products. Certain product features and misaligned incentive structures encouraged the mis-sale of ULIPs to investors. Although the ULIP was a long-term (15 year) product, up to 40 per cent of the commissions from the product could be collected in the first year. This ‘front-loading’ of commissions offered considerable scope for mis-sale of the product.

Defrauding of small investors had left them with no confidence to invest in insurance again. By sacrificing the customer interest, companies have lost their golden opportunity to reach out to the masses.

So, while we take pride when we say “mutual funds sahi hai” (which is in my view absolutely correct) it is important we also market it well. In order to help mutual fund and its investors we need to remember that good products not necessarily need hard selling.

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The post Mutual funds are right for you, but beware of mis-selling appeared first on News Wire Now.

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