Will Sebi directive of labelling mutual fund products help?
Sebi has mandated that fund management companies label their schemes
from 1 July 2013 to enable investors to understand a mutual fund product
and its compatibility with their specific goals. But, is this enough to help the investor avoid a product that does not meet his needs?
Over the past few years, Sebi, or the Securities and Exchange Board of India, has worked on making mutual funds attractive for investors , with the more recent attempts concentrating on curbing 'mis-selling'.
Sebi has mandated that fund management companies label their schemes from 1 July 2013 to enable investors to understand a mutual fund product and its compatibility with their specific goals.
Mutual fund documents must now identify the nature of the scheme (to create wealth or provide regular income) with an indicative time horizon (short, medium, long term) along with a brief about the fund's investment objective.
The investor must also be told if the product invests in equity or debt and identify the level of risk in investing in the scheme through a specified colour code.
Further, all this information must be included in the front page of the initial offering application forms, the Key Information Memorandum (KIM), the Scheme Information Documents (SIDs) and the common application form.
But, is this enough to help the investor avoid a product that does not meet his needs?
Gaurav Mashruwala, a certified financial planner, says the various types of funds can confuse investors by their nomenclature alone. For instance, a dynamic PE ratio fund is different from a dynamic bond fund or a dynamic equity mutual fund.
"Product labelling will help identify basic fund attributes in a concise form, which will help (an investor) differentiate funds based on investment objective, investment tenure, the asset class (the fund) belongs to and risk," he explains.
So, at a glance you can match your goals to the fund's objective and tenure , apart from identifying an investor's biggest fear, the safety of his principal amount from the colour code attached to schemes.
This should reduce the chances of investors being mis-sold a product. Though these measures have been welcomed by all stakeholders in the mutual fund industry, it has not been deemed a final solution. There are shortcomings.
Mukesh Jindal, partner, financial planning firm Alpha Capital says, "Labelling is not justifiable across various categories of funds."
For example, as per the Sebi regulation the colour code blue (low risk) will be applicable to both fixed maturity plans and gilt funds within the fixed income category. "This is not accurate as FMPs don't have an interest rate risk whereas it is high for gilt funds," he adds.
For instance, during the period January 2009 to January 2010, when interest rates started moving up, some gilt funds delivered negative returns of up to 10%. Many investors were shocked to discover that they could lose money in gilts.
Similarly, within the hybrid category, an MIP, or monthly income plan, carries a lower risk than an equity-oriented hybrid fund even though would both sport the yellow colour code (medium risk).
This could mislead an investor who would look at the label of a particular fund in isolation without considering the fund's investment objective or horizon.
Mashruwala says that product labelling is only a preliminary outline of the type of fund and this information cannot be relied upon to make an investment decision.
He says it is similar to a food label, wherein the colour coding of red and green distinguishes between vegetarian and non-vegetarian content but it does not specify the ingredients of the product.
Jindal believes sub-coding within the proposed labelling is also required. Globally, a fund's fact sheet would carry details such as the investment objective and ratings by a prominent agency (most commonly Morningstar).
Fund management firms, such as Fidelity for instance, highlights risk associated with each fund based on Morningstar ratings. It also ranks returns within the rating agency's category of funds.
Apart from investment objective and strategy, there are other parameters investors must consider before investing in a fund.
Himanshu Pandya, head, Products and Communication, ICICI Prudential AMC, says "a fund's pedigree, performance and purity" should be considered when making an informed choice.
Identify fund houses that have a strong presence in the financial sector and manage funds that have reasonably long and consistent track records. Further, look at funds with a consistent performance over longer tenures (three, five and ten years).
A scheme's purity refers to its investment mandate and if it has stuck to this mandate. Many funds tend to dither to either attract more customers or to ride a market rally.
Other factors such as corpus, expense ratio and other risk-ratio parameters such as standard deviation, Sharpe Ratio, Beta and Alpha must also be analysed to make an informed decision.
To rely on the latest labelling to invest would be unwise. While it provides an outline, investors must do the same extensive research when choosing a product.
Sebi has mandated that fund management companies label their schemes from 1 July 2013 to enable investors to understand a mutual fund product and its compatibility with their specific goals.
Mutual fund documents must now identify the nature of the scheme (to create wealth or provide regular income) with an indicative time horizon (short, medium, long term) along with a brief about the fund's investment objective.
The investor must also be told if the product invests in equity or debt and identify the level of risk in investing in the scheme through a specified colour code.
Further, all this information must be included in the front page of the initial offering application forms, the Key Information Memorandum (KIM), the Scheme Information Documents (SIDs) and the common application form.
But, is this enough to help the investor avoid a product that does not meet his needs?
Gaurav Mashruwala, a certified financial planner, says the various types of funds can confuse investors by their nomenclature alone. For instance, a dynamic PE ratio fund is different from a dynamic bond fund or a dynamic equity mutual fund.
"Product labelling will help identify basic fund attributes in a concise form, which will help (an investor) differentiate funds based on investment objective, investment tenure, the asset class (the fund) belongs to and risk," he explains.
So, at a glance you can match your goals to the fund's objective and tenure , apart from identifying an investor's biggest fear, the safety of his principal amount from the colour code attached to schemes.
This should reduce the chances of investors being mis-sold a product. Though these measures have been welcomed by all stakeholders in the mutual fund industry, it has not been deemed a final solution. There are shortcomings.
Mukesh Jindal, partner, financial planning firm Alpha Capital says, "Labelling is not justifiable across various categories of funds."
For example, as per the Sebi regulation the colour code blue (low risk) will be applicable to both fixed maturity plans and gilt funds within the fixed income category. "This is not accurate as FMPs don't have an interest rate risk whereas it is high for gilt funds," he adds.
For instance, during the period January 2009 to January 2010, when interest rates started moving up, some gilt funds delivered negative returns of up to 10%. Many investors were shocked to discover that they could lose money in gilts.
Similarly, within the hybrid category, an MIP, or monthly income plan, carries a lower risk than an equity-oriented hybrid fund even though would both sport the yellow colour code (medium risk).
This could mislead an investor who would look at the label of a particular fund in isolation without considering the fund's investment objective or horizon.
Mashruwala says that product labelling is only a preliminary outline of the type of fund and this information cannot be relied upon to make an investment decision.
He says it is similar to a food label, wherein the colour coding of red and green distinguishes between vegetarian and non-vegetarian content but it does not specify the ingredients of the product.
Jindal believes sub-coding within the proposed labelling is also required. Globally, a fund's fact sheet would carry details such as the investment objective and ratings by a prominent agency (most commonly Morningstar).
Fund management firms, such as Fidelity for instance, highlights risk associated with each fund based on Morningstar ratings. It also ranks returns within the rating agency's category of funds.
Apart from investment objective and strategy, there are other parameters investors must consider before investing in a fund.
Himanshu Pandya, head, Products and Communication, ICICI Prudential AMC, says "a fund's pedigree, performance and purity" should be considered when making an informed choice.
Identify fund houses that have a strong presence in the financial sector and manage funds that have reasonably long and consistent track records. Further, look at funds with a consistent performance over longer tenures (three, five and ten years).
A scheme's purity refers to its investment mandate and if it has stuck to this mandate. Many funds tend to dither to either attract more customers or to ride a market rally.
Other factors such as corpus, expense ratio and other risk-ratio parameters such as standard deviation, Sharpe Ratio, Beta and Alpha must also be analysed to make an informed decision.
To rely on the latest labelling to invest would be unwise. While it provides an outline, investors must do the same extensive research when choosing a product.
