KUNAL KAPOOR
With increasing competition and scale, manufacturers should be able to focus more on lower cost products such as ETFs (exchange-traded funds). There could be a shift to solution-based offerings over time, akin to developed markets such as the US, where offerings such as target date funds or lifecycle funds are fairly common.
The distribution industry could see a shift from commission to fee-based remuneration. Developed markets such as the UK have made this shift. In the US, we’ve recently seen the introduction of Department of Labor regulations with a focus on advisors’ fiduciary responsibility to investors. In India, this shift would need to be balanced with the need to increase the penetration of MFs among retail (small) investors. As the complexity of investor needs, investment options and regulatory compliance increases, we could start to see advisors outsource investment activities such as asset allocation and portfolio construction to third-party experts.
Unlike developed markets, active investing still dominates in India. How long before the scales tip to passive investing?
Across the world, the dominant narrative is that it’s hard for active managers to outperform their indexes. But, in India, the majority of active managers still beat their benchmarks. We conducted a study recently to determine the drivers of this outperformance. These suggest it is largely driven by superior stock selection, rather than systemic factors such as market risk premium, size premium, value premium and momentum. This is more prominent in the small/mid-cap fund universe, where fund managers have a wider pool of companies to choose from, with little or no analyst coverage.
Equity MF assets in India account for about 5.5 per cent of the overall equity market capitalisation. In the US, this number is in excess of 30 per cent, which makes it harder for the average manager to outperform the benchmark. As Indian MF assets grow, there will be a fall in the proportion of funds beating their benchmarks.
The Indian capital market regulator recently introduced norms for categorisation of schemes. Is this a step in the right direction?
Globally, Morningstar has been categorising funds for over three decades and we have a fair grasp of the difficulties and nuances. While markets such as the UK, Canada and Thailand have had fund categories defined by the industry body, this move is historic in the sense of being the first attempt globally by a fund regulator to set defined categories and respective mandates. While we applaud the regulator’s attempt to curb product proliferation by companies within a given category, we have taken cognizance of the blurred lines between some of the categories. More, the dictum for a fund company to include only one scheme in each category is fairly restrictive, especially where clear style differences can co-exist between funds of a similar category. Having said that, this is a pro-investor move, as it clearly defines the mandate for fund categories, aiding investors in identifying and comparing suitable investments with similar mandates.
CEO, Morningstar Morningstar recently published the fifth GFIE study. India shone in this one, joining the US in receiving top grades for disclosure. Could you highlight a few key areas where the sector can improve?
India is among the most expensive places when it comes to expense ratios, especially for equity and allocation funds. Given the level of alpha (active return) that Indian funds deliver, there isn’t always enough focus on the absolute level of expenses charged by funds. We think as assets under management grow rapidly, asset managers should focus on passing on the benefits of economies of scale to investors by reducing expense ratios.
Another area for improvement is sales practises. While the Investment Advisor Regulations of 2013 and subsequent amendments look to address this issue, we are yet to see these practices being adopted widely.
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