The mutual fund industry is expecting a number of tweaks in the new consultation paper on the total expense ratio (TER), to be floated by the Securities and Exchange Board of India (Sebi).
In its original proposal, the regulator said TER slabs should be at the level of the AMC, and not at the scheme level. This is after bucketing the AUM of open-ended schemes into equity and non-equity schemes.
“The cost required to run different categories of funds will be different, which is why the TER should be different for different categories. There is no operating leverage across the board given that each fund has a different fund manager distribution cost and size of portfolio,” said an industry official.
The regulator could, for instance, club ETFs and arbitrage schemes into one bucket with the same TER threshold, or retain the old slab structure and cut TER by 10-20% across schemes, said the official.
Sebi said it got more granular data for the last five years showing that the industry has achieved the economies of scale to an extent.
“We still have a long way to go as an industry. Our equity assets are still only 12% of the banking industry. If one looks at the AMC growth versus profitability, the growth has been much higher than profitability. The scale benefit has been accruing to investors, but the question is how much incremental benefit needs to be passed on to them,” said A Balasubramanian, chief executive of Aditya Birla Sun Life AMC, in an interview to a television channel last week.
“The assumption that MFs have become a digital product is not entirely correct. They are still a push product and you need to often physically reach out to the customer to realise sales. Travel and hotel costs have gone up exponentially. MFs are still under-penetrated and it is too early to drastically alter the TER rates. Also, is it fair to large fund houses who have built scale over several years?” said the chief executive of another fund house.
The industry is hoping that the regulator will keep GST, STT and brokerage costs outside the ambit of the overall TER.
The arbitrage fund segment, for instance, may need to be wound down if all these costs are included within the TER, as such schemes will not be able to recover transaction costs. According to experts, the nature of the product is such that a percentage of the portfolio may require frequent churn depending on arbitrage opportunities. This would necessarily add to the brokerage and STT costs. Under the earlier proposals, these costs will be part of the TER, which will be capped. If the expenses cross this TER limit, the fund will not be able to churn the portfolio.
Brokerage and transaction costs are part of the recurring expenses that can be charged to a scheme. The additional expense can be up to 0.12% of trade value in case of cash market transactions and 0.05% in case of derivatives transactions.
“We see higher likelihood of regulatory stance easing (versus market expectations) towards the sector, even as there is some residual uncertainty around what comes out in the next consultation paper and the final regulations…” said a report by Kotak Institutional Equities.