Mf-Distributor Rebating Rumpus Unresolved

Mutual funds and their distributors -- particularly institutional brokerages -- are unable to thrash out the differences over the issue of commissions and rebates on them. Each is waiting for the other to make the first move.

The committee constituted by Association of Mutual Funds of India (Amfi) to find a solution to the rampant rebating of commissions in the mutual fund sector has thrown up an interesting proposal.

Called I-Plan, this envisages paying a nominal brokerage (the card rate) to institutional brokerages and adding everything on to the returns paid to investors, who will be the gainers. "There will be virtually no brokerage shown," said an industry source.

The actual brokerage -- which has been the norm so far -- is a combination of the card or the `official' rate and a hidden rate. It is the hidden rate which creates all the problems.

It allows distributors to rebate commissions to attract investors but it also increases the expenses of the asset management companies. Close to 85 per cent of the business in the funds sector comes from the top 20 distributors, most of whom are institutional.

The funds are caught in a cross fire: if they lower the brokerages, the distributors can well stop selling mutual fund products and turn to selling other financial products. "So the status quo is maintained," said the head of sales of a leading private sector fund, adding that someone would have to take the initiative soon.

Funds are torn between retaining customers and placating distributors without whom they can't really survive.

This is possibly the toughest ever challenge faced by the industry. The funds must cut expenses of their schemes if they want to keep investors in their fold.

This can be done by paring the brokerage and jacking up the direct return to investors who were earlier sharing the commission with brokers and thereby getting higher returns.

The move was triggered off by the Securities and Exchange Board of India's (Sebi) decision to ban intermediaries from sharing the commission with investors.

"So far, brokers used to share the commission with investors, adding to their return. The Sebi ban on commission sharing has indirectly hit the returns earned by investors. We will have to compensate them if we want investors to remain with us," said a senior executive at a large public sector fund.

But lowering the brokerage may affect the mobilisation drive of funds. Typically, expenses of a scheme accounts for 2 per cent of the corpus. Of this 2 per cent, brokerage can be as high as 1.6 per cent and the rest is accounted for by management fees, the cost of registration and transfer, custody fee, printing and mailing and so on.

"It is a very difficult job but we must to do that if we want investors to stay with us. We need the brokers too. It is a tough balancing act," points out another fund manager in the private sector.

Nobody is willing to say whether rebating is still going on, though the smaller distributors are still reported to be rebating. "If rebating can take the form of cross-subsidising, it will be impossible to track it down," said the sales head.

Industry circles said that if no initiative is taken and rebating still goes on, Sebi which has so far refrained from regulating the distributors directly, could well step in and start policing them, in which case nobody would be left with any choice but to toe the regulator's line. "Its anyone's guess what form this policing will take," said a mutual fund head.