It is a strange world! Not everything is subject to reason. People usually are quite savvy and materialistic when it comes to money. However, the preference to pay crooked mutual fund commission on their mutual fund investments over fees baffles me! Perhaps, there is some deep underlying psychology to it!
(We consider fees as a simple straight charge; commissions are ‘crooked’ only because the money goes from you, the investor to the Mutual Fund, and then to the broker: not a ‘straight’ flow! No need to attribute any other meaning to that word).
What is the issue about?
Let us first understand the issue. I am essentially talking about preference of investors for “regular” mutual funds when compared to “Direct” mutual funds. Regular readers of this blog would have by now understood that there is no difference between the two variants of the same fund, except that in case of a Regular Fund, a commission is paid to the broker or advisor assisting you with the investment, whereas in case of a Direct Mutual Fund, there are no commissions paid to the intermediary. Hence, no broker sells you Direct Mutual Funds. Platforms such as Jama offer “Direct” mutual funds, but charge some fees from the investor.
Straight Fees Vs Mutual Fund Commission
Earlier blogs have clearly highlighted that commissions are nothing short of daylight robbery. The fee is paid one time, or in the case of regular investors, once a year if an investor decides to renew his subscription. In contrast, Commissions are paid for as long as the investor is invested in the mutual fund.
The fee is usually flat. The amount of fees charged by an investor should not differ whether an investor is investing RS.5,000 or Rs.50,000 or Rs.50 lakhs unless the nature of service provided is different. In contrast, commissions are calculated by applying a percentage to the amount invested. Typically, broker commissions are in excess of 1% of invested amount. So, if an investor invests Rs50,000, she pays Rs.500 as commission while this amount is Rs.50,000 if the amount invested is Rs.50 lakhs. The additional effort put in by the broker to earn this extra Rs.49,500 is to write two zeroes extra in the application form!
For example, an investor investing Rs.50 lakhs through Jama, if she is not opting for personalized service in terms of goal based portfolio allocation, pays only a one-time subscription of Rs.499. However, she will end up paying in excess of Rs.50,000 year after year to the broker, if she opts for Regular Mutual funds.
Thus, it is a no-brainer that direct Mutual Funds should be our preference over Regular mutual funds.
Industry Practice
It is shocking to note that more than 90% of investments continue to be made in Regular Mutual Funds. There is hardly any interest in search engines for “Direct” mutual funds. SEBI, the Capital market regulator made it compulsory for all Asset Management Companies to offer “Direct” plans. It has been running quite a few investment campaigns urging investors to choose Direct Funds. SEBI Registered Investment Advisors are prohibited from selling Regular funds. Yet, Regular Mutual Funds still have such a large share of the market.
So much that, Asset Management Companies such as Quantum Mutual Fund, which had taken a stand that they will offer only Direct Mutual Funds, are now giving the investors the option of investing in their “Regular” mutual fund versions. In other words, they too want the distributor’s help in pushing their fund. Howsoever reluctantly, they too have now agreed to pay commissions to brokers, although the commission percentage is extremely small.
Another reason could be that with more online distribution channels available for people to buy mutual funds, they don’t want to be excluded (or blacklisted) from the party. They may not wish to pursue brokers the way many other Mutual Fund companies do, but Hey, why not increase the Assets Under Management and thereby pass on the benefits of reduced expense ratio to all of their investors?
The Online Picture – Who is searching what?
Speaking of online digital distribution of mutual funds, there is a snapshot of what Google searches on Mutual Funds vs Direct Mutual Funds are showing in India. We will cover the headlines only here.