Will Capping Mutual Fund Commissions Help You?   Jul 31, 2018

Capping Mutual Fund

At a popular mutual fund brokerage house with a pan-India presence, commissions soared to a massive 78% in FY 2017-18.

On the other hand, the banks grew their revenue from mutual fund distribution in the range of 65% to 140% on a Year-on-Year (Y-o-Y) basis last fiscal.

Did your mutual fund portfolio record such an impressive performance?

Irrespective of how your investments do, mutual fund distributors earn their commissions.

[Read: How Mutual Fund Distributors And Banks Cheat You] 

Radically, mutual funds have gained popularity in 2017, which probably contributed to the sharp spike we’ve witnessed in the commission income of distributors.

But, that’s not the only reason.

To achieve these milestones and ride the wave of popularity, mutual fund houses launched New Fund Offers (NFOs) and paid generous upfront commissions to promote them.

About three years ago, the Association of Mutual Funds in India (AMFI) had advised mutual funds to cap commissions paid to distributors to 1.0%. It had also recommended that the total payout in any year should not be more than 1.75% (i.e. upfront + trail commission).

For all the existing schemes, many mutual fund houses followed the advice of AMFI.

But they have always been good at finding loopholes.

Noting that AMFI cannot frame rules; it can only urge to implement its suggestions voluntarily, on numerous occasions, many fund houses deviated from AMFI’s suggestion.

Some fund houses have paid as high as 5% commission to promote small-cap funds and close-ended NFOs.

[Read: Close-ended NFO Factories: Should You Invest?]

To pay higher commissions to distributors mutual funds often charge higher expense ratio to investors which, in turn, hampers investors’ returns. To avoid this, you should opt for direct plans which have a lower expense ratio.

National-level distributors and banks have churned their client’s portfolios to earn higher commissions. Mutual funds and distributors have been working as a team to maximise the assets of the former.

This has irked Big Daddy SEBI (Securities and Exchange Board of India). It is now planning to put an upper ceiling on the upfront commissions that mutual fund houses pay to their distributors.  

If SEBI caps commissions indeed, it will be a welcome change.

But the question is, would that be enough to ensure that investors’ interests aren’t compromised?

In PersonalFN’s view, no!

Like any other business, even distributors work for profit, much like Asset Management Companies (AMCs). And they adopt unethical ways to garner higher profits.

SEBI has been taking unprecedented steps to protect the interests of investors. Yet, the ‘caveat emptor’ i.e. buyers beware, is an unwritten rule that you as mutual fund investors shouldn’t overlook.

(Image source: creative-common-images.com)

So, what should you as an investor do to protect your interest?

Before you invest in any mutual fund scheme, ask yourself, why you are investing in it. In other words, have a financial plan.

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All your investments should be consistent with your risk appetite and the time horizon you have in before financial goals befall.

If you have a very low-risk appetite and a shorter time horizon, your portfolio should not have exposure to equity and be more oriented towards fixed income instruments. When the investment time horizon is long, at least 3 to 5 years, and risk appetite is high, equities make sense.

In addition, your existing financial health, age, and investment objective seriously affect your investment choices.

Depending on all factors discussed above, you should chalk out your personalised asset allocation. It will help you park money sensibly in various asset classes such as equity, debt, gold, and real estate (if you’re considering it as an investment).

Once you decide the asset allocation, the next step should be to find out suitable investment alternatives.

[Read: 10 Reasons Why You Need A Financial Plan]

Should you stop investing in mutual funds?

Mutual funds are an effective investment avenue that can help you accomplish your financial goals. Depending on your age, risk profile, investment objective, financial goals you are catering to, and time horizon before goals befall, you should select appropriate type/s of mutual funds.

Equity Mutual Funds have an objective to generate capital appreciation over the long term. Such mutual funds normally invest a major part of their corpus in equities. Naturally, equity funds have comparatively high risks.

Therefore from a suitability standpoint, if you have a high-risk profile, consider investing in equity funds with an investment time horizon of at least 5 years. 

Watch this video:

Equity-oriented mutual funds are most suitable to plan long-term goals such as children’s education needs, their wedding expenses, and your own retirement. And to accomplish these goals opting for Systematic Investment Plans (SIPs), a mode of investing regularly in mutual funds is a worthy proposition.

Likewise, when you invest in debt schemes, you are indirectly investing in bonds, Commercial Papers (CPs), Certificate of Deposits (CDs), Non-Convertible Debentures (NCDs), and other fixed-income instruments. The objective of debt mutual funds is steady and regular income to investors but varies in accordance to a sub-category.

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Therefore from a risk-return standpoint, they are less risky compared to equity-oriented mutual funds. But, remember debt-oriented are not completely risk-free or safe.

Debt Mutual Funds are suitable for investors with a low-to-moderate risk appetite and who have a shorter investment time of horizon of less than 3 years to even a few months or weeks. Thus, to plan for short-term goals they are ideal bearing in mind one’s liquidity needs.

Likewise, you must hold some portion in gold ––at least 10% of your entire portfolio with a long-term view.  The precious yellow metal as an asset class is an effective portfolio diversifier, a hedge, a store of value.

The long-term secular uptrend exhibited by gold is something that invites attention and highlights the importance of owning gold in the portfolio. The smart way to invest in gold is through gold Exchange Traded Funds (ETFs) or gold savings funds.

[Read: 4 Smart Ways To Invest in Gold

How difficult is it to create a portfolio of mutual fund schemes?

There are a plethora of funds available to invest in. This makes the mutual fund scheme selection a tough job.

For non-savvy investors, shortlisting mutual fund schemes based on such stringent research process isn’t an easy exercise. And even for savvy investors, time constraints pose a challenge.

But in case you wish to learn how to select winning mutual funds with thorough research and analysis, download PersonalFN’s Money Simplified Guide - 10 Steps to Select Winning Mutual Funds


And if you are looking at readymade mutual fund portfolio that can multiply your wealth in the years to come,  PersonalFN’s “The Strategic Funds Portfolio for 2025” is the answer!

The Strategic Portfolio is constructed based on the ‘core and satellite approach’ to investing. This effectively is a rare investment strategy followed by some successful investor.

Here are 6 benefits of ‘core and satellite approach’:

  • Reduces the need for constant churning of your entire portfolio

  • Facilitates optimal diversification;

  • Reduces the risk to your portfolio;

  • Enables you to benefit from a variety of investment strategies;

  • Aims to create wealth cushioning the downside; and

  • Offers the potential to outperform the market;

PersonalFN’s research states that 60% of the portfolio should be reserved for Core mutual funds and the balance 40%, for the Satellite mutual funds.

But what matters the most is the art of cleverly structuring the portfolio by assigning weights to each category of mutual funds and the schemes picked for the portfolio.

Also, when there is a change in market outlook, revisiting the strategically structured portfolio by reviewing assigned weights to funds, is important.

And now that markets have hit a new peak, holding an Ultimate Strategic Portfolio Ready-made Mutual Fund Portfolio would be even more worthwhile.

To know more about PersonalFN’s Strategic Portfolio For 2025, click here! 

Happy Investing!

Author: PersonalFN Content & Research Team

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