Direct plans now account for a third of total industry assets, over 10% of equity assets and are making their way well beyond institutional portfolios into portfolios of HNI investors and now even retail investors. Many distributors are asking the question that the Straight Talking Brijesh Dalmia is trying to address in this context: is it worth staying in this business? Brijesh believes direct plans have perhaps come into our country too early in the evolution of the MF industry, and even if they cannot be wished away, there are some flaws in pricing of the direct plans that can and should be tackled. However, what should an IFA do, when these decisions are beyond his/her control? Read on as Brijesh tells us how he is dealing with direct.

The Impact of Direct

In the past 2 decades, there have been many setbacks, concerns and events which hit the distribution business hard. Some of the notable events being - technology stocks meltdown in 2001-02, introduction of Direct in 2007-08 where entry load was waived for direct investors, Lehman brothers crisis in 2008-09 followed by worldwide slowdown and markets tanking over 60% from the top, removal of entry load in 2009-10 which resulted in lower upfront commissions, introduction of RIA regulations in 2013-14 and two latest events in 2015-16 being re-introduction of service tax and the decision by manufactures to move towards an all trail model.

However, the biggest and the most serious setback which will have a long lasting impact on this business is the introduction of 'Direct asset class' with differential NAV having lower expense ratio for direct investors. While most the above setbacks and concerns were either short term in nature or have a positive long term impact (after a painful short term period), the 'Direct asset class' event will have a long term negative effect for people engaged in the distribution business.

The current share of Direct

Currently, around 30-35% of industry assets have moved direct. That is almost one third. Though, there is respite that most of it is liquid money and investors who moved direct were large institutions, not affecting IFAs at large. However, the equity side of the direct market share is too growing at a steady pace, currently just a notch below 10% of total equity assets.

The next in line

After IFAs who dealt with large institutions, the next in line who will be hit hard are large IFAs who mostly deal with HNIs. With pink papers and other media leaving no effort to over emphasise the advantage of direct, things are going to get worse. I expect the speed to increase in terms of more HNI clients moving direct. I am not saying that IFAs in HNI space will not grow. But I believe that while the absolute numbers (AUM growth) of IFAs may keep on increasing, the percentage of direct share will also increase. This will reduce the growth rate of IFA business.

Impact on retail IFAs

I have maintained since long that retail will be the last to get impacted. Even today, the total share of retail clients in direct is quite insignificant. However, the market share of direct in retail will also keep on increasing with time. IFAs operating in retail market should take full advantage of this and build a large AUM before they start feeling the pinch. The most unfortunate thing is that some small clients who were nurtured by an IFA over years and decades, will move direct once they become large investors. It will hurt the retail IFA.

Is it worth staying in this business?

Yes, it is. Mutual fund business in India will hit the roof in the coming years. The transparency, convenience and returns they offer, makes it a strong case for investment for investors. Also, most investors value good advice and are loyal to IFAs and they respect relationships. The overall volumes in industry will rise and the absolute share of IFA business will also rise. For eg. an IFA having 10 crores AUM today may see his AUM swelling to 40-50 crores in the years to come due to growth in overall mutual fund assets in India. However, on an average, the growth may not be equal to the total industry growth since the percentage of direct will definitely increase with time. The same will happen with IFAs in HNI space. They will grow for sure but the growth rate will slow down a bit due to some clients moving direct over time.

Conflict of interest

The direct asset class having a differential NAV to the extent of commission paid to intermediaries has created a conflict of interest between AMCs and distributors. While the distributor loses, AMCs do not lose. Their status remains the same as their volumes and margins are not impacted. While AMCs are currently going slow and they are trying to project that they are not keen on direct business, over period some AMCs will start spreading their wings to garner assets no matter from where they come. Ultimately, they are in the business to make money and it will affect distributors negatively.

Major flaw in introduction of the direct asset class

While some countries in the world do have direct asset class, considering the size and maturity levels of Indian markets, it seems to be hurried upon in India. While there are so many controls on IFAs with regard to examination and competence, there is no such clause for investors. Most investors have very less knowledge and competence to identify the schemes which may be suitable to them. It can really hurt investors and back fire the entire thought process. If the regulators think direct is mostly for HNIs then it means they want IFAs to grow a retail client, sweat for years to see their assets grow, only to see them taking the direct route. This is painful. Further, rather than giving the entire benefit of distribution cost to direct investors, some bps could have been allocated towards industry development initiatives, growing the market, developing more IFAs, and also higher investor awareness. This would also reduce the gap between direct and otherwise, making it a less attractive for investors going into direct till the time they mature along with the markets.

The silver lining

No matter how hard the setback is, there is always a silver lining. In this case, introduction of direct asset class has mostly ensured that trail would remain and IFAs don't need to be concerned on this part. Another advantage is that in future more serious players will join the distribution business and existing distributors will never take their clients for granted. The quality of advice and service levels will improve which will result in higher loyalty of clients towards the distributor.

Conclusion

We must follow the regulations. There is no other choice. However, this particular part of regulation is going to hit all distributors hard. While, tremendous industry growth will reduce the impact somehow but it is still a bitter pill we all must chew. Given a choice, I would prefer direct not being there. However, since it is not in my hand, I would focus on increasing my volumes a little more to counter the impact of direct. All in all, mutual fund distribution business still makes a strong case for all engaged into it.

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