Coming without the baggage
No-load instruments are slowly becoming a focus area for regulatory authorities in the country. The process started with no-load mutual funds (MFs) that changed the MF investing landscape last year and now there are efforts at bringing more instruments under such coverage. Investors, on their part, need to know that no-load options are beneficial for them, though they need to be clear about the way in which no-load instruments differ from the normal ones. Here is a list of some factors where investors will face a situation different from the normal experience.
CHARGES FOR INVESTING
The very basic nature of the investment into the no-load instrument deals with the charges recovered from the investor at the time of the investment. There are typically different charges paid by the investor in any product and one of these involves a payment at the time of the investment that is used to meet various expenses of the instrument, including commission paid to intermediaries or brokers.
The elimination of the charges at the time of the investment will be the main feature of a no-load investment. For example, earlier there was an entry load in MFs. Consider a fund where there was a two per cent entry load and the net asset value of the scheme was Rs 20. If an investor invested Rs 1 lakh into the scheme, then units would be allotted at Rs 20.4 as against Rs 20. This would mean allocation of 4,901.961 units. When this becomes a no-load scheme, then the units are allocated at Rs 20, which means the investor gets 5,000 units for his investment. This benefit, right at the time of investment, ensures the investor knows what his investment is getting without charges eating away at the investment.
PAYMENT OF INTERMEDIARIES
The elimination of the load at the time of investment will have a resultant impact on several other areas. One of this deals with the payment made to intermediaries who help in the selling and distribution of the product. In case of a structure where the investor is paying a load, part of the amount collected from such a levy was used for the purpose of compensating the intermediaries. Since there is no extra charge being levied on the investor for the no-load product, there is a very small amount or no amount left with the product issuer to pay the intermediary.
This leads to a situation where the investor usually ends up paying the intermediary for the services rendered in helping with the investment. For example, in the case of MFs, when an investor uses the services of a distributor, then the payment is made by the investor to the distributor based on mutual agreement. In a normal situation, the intermediary is paid a fixed sum as decided by the product issuing entity but in the no-load structure, the investor would end up paying the intermediary. Consider a hypothetical situation where investment-linked products offered by insurance companies go no-load. In such a situation, the investor benefits, as there will be a downward impact on the allocation charges collected as part of the policy. This will have to be compensated, with the investor paying the agent for the services rendered.
WORKING FEATURES
The next step in the no-load instrument deals with the actual performance. Since there is no load charged, every instrument subject to the same rules will start off on an equal footing. There is no expense in one or some of the options that cause a distortion in the overall performance of the instrument, so understanding the performance becomes easier. For example, when all MF schemes are no-load, then the investor knows the difference in performance experienced by the investments is solely on account of the portfolio management of the scheme. If there are no-load debt options or no-load real estate funds or any other financial product, then the returns from such products can be easily understood. Currently, it is not possible to compare the performance of various products in the market because it could be that initial expenses charged to the product are distorting the picture.
Often, with the introduction of the no-load option, the positive impact is diluted because there is not much interest from intermediaries to sell the particular product. This leaves the issuing entity to directly approach the investors and use additional marketing and other expense. While the expense figure will remain within the overall limits set by the regulator, it could remain on the higher side. For example, if the maximum expense allowed for an instrument is, say, two per cent per annum, then it could be that the figure of a load product will be near or equal to the maximum allowable.
INVESTMENT ADVICE
There is a sea change in the manner in which the investment advice is received and valued. In case of a normal investment with a load, there is a risk that the investment advice being given is not dictated by what is good for the investor but by what is good for the intermediary. While this is not always true, there have been complaints in this regard from investors. There are a large number of instances here where the investor does not even pay for the advice received.
With the introduction of the no-load option, the nature of the game changes in this area. Investors will have to learn to pay for good advice. Investors will receive quality advice and this will have to be beneficial for the investor if the intermediary wants a higher compensation. This also brings out the role of financial advisors and planners who will compete for the investor's business. Further, if the advice does not turn out to be appropriate, then there is a high chance that the investor will move away.
The writer is a certified financial planner