Gains from paying for financial advice

The transparency that results when the investor pays for the advice directly would drive a shift towards professionalism in the industry.

There has recently been a lot of heat and noise about the abolition of the entry loads on mutual funds and the consequent pressure on retail investors to pay financial advisors for their services. Certain sections of the industry have been talking about the end of ‘free-advice' for consumers. The point being missed is that there never was any free lunch for consumers — they were always ‘paying'!

Earlier, the advisor was earning a commission from the fund house (out of the investment made by the consumer and referred to as the ‘entry load'), but today, following the ban on the entry load, the customer pays the advisor directly.

While the customer still pays, there are several reasons to say that the change in the mode of rewarding financial advisors is actually a customer friendly measure. And to that extent, this change should get a thumbs-up from all stake-holders, most importantly, the retail investor! When the investor pays for the advice directly, it helps bring about a significant level of transparency. Models of remunerating advisors that are non-transparent always have the potential to end up being costlier than models that are transparent.

Transparency also brings in a significant level of professionalism since it will take a professional to have the confidence and standing to be able to charge a fee for advice. We could thus be looking at a paradigm shift towards professionalism in the industry in line with what has happened in developed countries over the last few years.

Aligning Goals

Since the earlier regime was not transparent, it was always likely that the goals of the advisor and the investor would be at cross purposes. Since the advisor was getting commission irrespective of the service level and the quality of advice, there was seldom any pressure to deliver value. With different fund houses compensating differently there was also the likelihood of bias towards funds or companies that provided the best commission. Today, with the investor paying the fees, it gives them control and a right to expect better service and quality of advice. This aligns the goals of both the advisor and investor; resulting in rewarding advisors who provide better advice and service.

Broadly there are three types of models: Entry Load, Transaction based and AUM Based (AUM – Assets Under Management). Considering the drawbacks of the current entry load model, we believe that a model that charges based on the Funds Managed does align the goals of the customer and the investor in a better way. This will clearly ensure that good advice is rewarded and as the portfolio grows, the compensation of the advisor grows.

A larger return can result in significantly better monetary value for the investor even though this model would result in higher costs when the returns are significantly higher. Some advisors are also keenly looking at the profit sharing model.

Cost of Entry Load

Many distributors are today providing the Entry Load or AUM fee based pricing: One needs to note in the above table that AUM Fee is charged on the total assets where as entry loads are charged only on investments into equity in that year and therefore the above table may not provide an ‘apple to apple' comparison.

Entry loads will also be chargable on the switch made from debt to equity. For an investor who believes that it is a good idea to book profits in equities over a 2-3 year basis; when one eventually moves back to equity, this would result in an entry load again.

Hence, the entry load cost would depend on how much fresh investment and switches (debt to equity) happen in the portfolio in the long term.

Removal of the entry load structure and the requirement that the advisor directly charges fees from the customer is likely to bring about a paradigm shift in the Indian Mutual Fund Industry. It is likely to bring in professionalism into the industry as is evident from markets where this model has become operational. Of course, investors will need a change in mindset; paying for professional services rendered by financial advisors just as they pay for other professional services.

Source: http://www.thehindubusinessline.com/iw/2010/01/24/stories/2010012450911200.htm

Markets in a spin over Obama talk

Stocks, commodities, gold and crude oil tumbled on Friday as investors see the end of a great liquidity cycle coming to an end, as the US moves to rein in proprietary trading by banks, and central banks begin to roll back easy monetary policies to curb inflationary expectations.

Indian shares rebounded from their worst levels, but still ended near a month low. The S&P 500 Index was down 0.5%, the MSCI Emerging Markets Index declined 2.7%, oil, gold and aluminium fell by at least 1%.

“Comments from the US government on restraining banks’ investment activities weighed down sentiment because it is feared that any such move would hurt fund inflow,” said NK Garg, CEO, Sahara Mutual Fund.

The 30-share Sensex fell 1.1%, or 191.46 points, to close at 16,859.6. The 50-share S&P CNX Nifty fell 1.1% to 5,036. In the broader market, losers outnumbered gainers by 2043 to 842 on BSE.

“Banks will no longer be allowed to own, invest in or sponsor hedge funds, private equity funds or proprietary trading operations for their own profit, unrelated to serving their customers,” US President Barack Obama said on Thursday.

Asset classes across the board lost value after Mr Obama unveiled a plan to limit trading by banks such as JPMorgan Chase and Bank of America to reduce the risk to financial system, which was propped up by taxpayers money last year after banks incurred losses of trillions of dollars. These banks’ trading was a major reason for the record performance of emerging markets last year, including India which gained 81%. So, any restriction on them could reduce investments from the West to emerging markets.

Foreign institutions net sold shares worth Rs 2,415.4 crore while their domestic counterparts net bought shares worth Rs 1,954 crore, according to provisional data from NSE.

Furthermore, central banks, at least in emerging markets, are expected to start raising interest from record lows, as accelerating economies threaten high inflation.

While China grew 10.7% in the latest quarter creating a fear of asset price bubbles, food price inflation in India -- above 15% -- is straining household budgets.

Even the Federal Reserve and the European Central Bank, which have the lowest policy rates, may start withdrawing some liquidity measures launched at the peak of the credit crisis, even as they hold on to low rates to avoid derailing a fragile economic recovery.

“The great liquidity cycle that began about a year ago is starting to draw to a close,” said Citigroup’s Asia equity strategist Markus Rosgen. “The Citi global excess liquidity indicator has already begun to roll over and is decelerating... Asia’s not immune,” Mr Rosgen said in a recent report.

Foreign institutions net bought Indian shares worth over $17 billion in 2009. The Reserve Bank of India in its January 29 meeting is expected to act to cool down prices and the finance minister Pranab Mukherjee may rollback tax cuts next month.

Source: http://economictimes.indiatimes.com/markets/stocks/market-news/Markets-in-a-spin-over-Obama-talk/articleshow/5490270.cms

Mkt must brace itself for near-term turbulence: Tata MF

Big boy Reliance posted strong third quarter numbers. The topline came in significantly higher than estimates at Rs 56,856 crore driven by strong volume growth. The big surprise came on the gross refining margin front, which came in at a robust USD 5.9 per barrel. Profits too were better than expected, rising 14.5% YoY.

Q3 earnings announcements from India Inc have largely been satisfactory with the exception of a few disappointments.

In an interview with CNBC-TV18, Ved Prakash Chaturvedi, MD, Tata Mutual Fund, gave a roundup of the earnings announcements so far, and his prognosis on the market in the run up to the budget.

Q: What have you made of the earnings announcements so far?
A: I cannot comment on individual earnings. But generally speaking from large companies particularly in IT and automobiles, and some midcap companies in the infrastructure sector, FMCG companies, by and large the feeling has been that there is strong recovery happening. Companies are more confident about the business that they are going to do. Largely, there has been a flavour of good cheer.

There have been some disappointments as well as it normally happens for example from some large companies in the construction and engineering space etc. The nature of that business is also very lumpy.

On the whole, I would say that the report card is positive. India Inc is looking at positive outlook for the economy and for incremental growth in the future. The earnings growth numbers at least justify that. By and large, a mood of good cheer which has been in the Indian equity markets seems to have been resting on sound foundations.

Q: What about global factors?
A: My feeling for some time is that we have seen a period of very good cheer, a long period of a sustained run, the dollar carry trade. I think there is some turbulence in the offing. We anticipate some tightening in China. We will have the credit policy at home on January 29.

The feeling is that there may be some action on mopping away of liquidity. Similarly in the US, if the dollar carry trade actually unwinds then what happens to the flows that happen globally. I think there is some turbulence ahead.

We should not forget that the good cheer in Indian equity markets has been based on sound foundations, on sound business, sound growth, numbers that companies are giving a very good outlook that business has in this country.

Q: Do you think the markets are likely to stay rangebound or dip even further from now till the budget?
A: I think the upside is capped. But I don’t see a huge downside from here. There could be some downside especially if global indices come down and if there is outflow of money from India. I think earnings numbers are good and there is domestic liquidity that comes in the last quarter especially from the insurance segment. By and large there is a left out feeling among investors and could be an opportunity for entry.

So, I suspect money from different sources will come back into the market. Maybe the dollar carry trade will become the yen carry trade of tomorrow. The positive outlook for Indian equities will gradually resume. Yes, there would be a period of turbulence and we should brace for a period of turbulence in the very near future.

Source: http://www.moneycontrol.com/news/mf-interview/mkt-must-brace-itself-for-near-term-turbulence-tata-mf_437547.html