Sometimes, steps to protect investors can hurt them in the long run

Devi, our house help, was saving for her granddaughter’s education and asked for my opinion on a “child plan” recommended by someone she knew. I explained that such plans lock in money for long periods, give low returns, and charge a penalty if you stop early. I also told her that the agent would earn more than she would. She understood — and then said something that stayed with me: “I like the lock-in, bhaiyya. Otherwise, I will use the money for other needs that keep coming up.” 

What Devi saw as an advantage, I had dismissed as a flaw — and she was right. 

Portfolios of the Poor (Collins, et al) shows how low-income households in Bangladesh, India and South Africa actively create ways to keep money out of reach — using informal groups or trusted people to protect savings from day-to-day pressures. Middle-class and wealthy investors feel the same pull: Money meant for long-term goals must be kept beyond the reach of short-term needs. 

This need didn’t go unnoticed by the financial industry. Life insurance — through lock-ins and penalties — tried to enforce that discipline. But it did so crudely. High costs meant poor returns, and investors were protected from themselves, but not from the product. 

Solution-oriented mutual fund schemes, such as a child mutual fund scheme (CMFS), offered a better answer — combining a clear goal, a five-year lock-in, and equity investing at low cost. Together, these provided motivation, discipline, and market returns. A CMFS is exactly what I recommended to Devi. 

I remembered all this when I noticed a recent regulatory change that required mutual funds to stop offering solution-oriented mutual fund schemes such as CMFS or retirement-oriented mutual funds. Thankfully, that requirement has since been withdrawn. Otherwise, it would have had the unintended consequence of pushing investors like Devi towards inferior life insurance products. 

This isn’t the only time a well-meaning regulatory intervention has produced the opposite of its intended effect. Efforts to reduce the proliferation of mutual fund schemes have produced a peculiar outcome: India has over a thousand mutual fund schemes with multiple variants, yet the ability to design meaningfully different products is constrained. So the problem of too many choices persists — while the range of genuinely distinct choices is limited. The answer may lie not in limiting products further, but in making them clearer. 

Ensuring that scheme names reflect their investments — “true to label” — is essential, and regulators have rightly pushed for this. The harder question is whether limiting product variety to achieve simplicity serves investors equally well. It is a reasonable goal, but one that comes with tradeoffs: Fewer options, less room for innovation, and weaker competitive pressure on costs. 

These tradeoffs are not unique to India.  In markets like the US, UK and Australia, mutual funds are free to choose their names, as long as they follow “true-to-label” rules. If a name suggests a type of investment, the fund must invest accordingly. Beyond this, there are no limits on similar funds — many with almost the same portfolios exist, and are mainly differentiated by how they are presented. The focus is on clear disclosure, not on limiting product choice. This recognises that labels help investors 

connect products to goals, with advisors helping them choose. 

Truth be told, India has one of the most transparent and efficient mutual fund ecosystems in the world. It gave Devi what she needed — a lock-in for discipline, a goal-named product for motivation, and equity investing at low cost for returns. All three pillars, working together. Thankfully, investors like her can continue to benefit from all three. Similarly, the anti-proliferation restrictions need to be revisited to allow a wider range of well-labelled products. Guided by good advisors, investors will be able to choose products that best suit their specific needs. Good navigation comes from a good guide, not a smaller map. 

The writer heads Fee-Only Investment Advisers LLP, a Sebi-registered investment advisor; X: @harshroongta