Money management: Is it a profession or a business?
Parag Parikh :Mint :28 Oct 2013
Since world-over money management is considered a profession, entry barriers are low
The current debate in the Indian mutual fund industry is around the net worth issue with one view wanting this raised from the current Rs.10 crore and the other wanting it to stay where it is.
I think we need to look at this debate through the lens of whether we consider money management as a profession or a business.
If it is a profession, then a professional does what is good for the client as the well-being of the former depends upon the well-being of the latter.
However, if it is a business then one is concerned about making business sense of the venture undertaken. More than the client’s interest, it is the business interest that dominates. I believe that money management is a profession but in India with high entry barriers and restrictive regulations, it has turned into a business. Result: marketing teams, distributors, multiple schemes and the race for assets under management.
World-over, money management is considered a profession. Hence the entry barriers are low so that right investment professionals can enter the field. In the US, one requires just $100,000 to set up an asset management company (AMC), in the UK and the European Union it is €125,000 and in Singapore it is Singapore $250,000. Surprisingly Japan has no such minimum criteria. So with just Rs.3 crore, one can be a global asset manager. While in India, where we already have a high entry barrier of Rs.10 crore, we are trying to make it even higher.
Those advocating higher net worth have two arguments. First, high net worth will ensure only serious and committed entities and second, penetration will be achieved as those with high net worth will be able to open branches.
An AMC is a pass-through vehicle which does not use balance sheet; prima facie there is no need for capital requirement. What is required is intellectual capital: passion for investing, knowledge of stock markets, experience in the capital markets, investment style and philosophy and core investment beliefs.
Large capital does not bring seriousness which is evident from some cases in the past. Moreover, the required capital may bring wastage and cost escalation in terms of salaries, commissions and make the entire industry a high cost one which may not bode well for end investors. As of today, there is no embargo on maximum capital and hence entities that want to pursue business strategy with large capital are allowed. It will become very hard for any new entity to set up an AMC with such requirements as it will take a long time to get the desired return on equity and business will be unviable. So a very few will remain who have clearly demonstrated their ability to create cartels.
While Rs.100 crore may be peanuts for large conglomerates, Rs.10 crore may be significant for professionals; so skin in the game is a function of relative situation and not an absolute number. The real skin in the game is when sponsors, fund managers and directors invest in the scheme aligning their interests with that of investors. Some of the well capitalized fund houses and their associates have well publicized integrity issues and punitive actions that have been taken by the Securities and Exchange Board of India. Thus higher capital is no guarantee of integrity. There are enough empirical evidence that larger a balance sheet neither is a guarantee for seriousness nor for integrity. With high net worth, we are giving wrong signals to investors about an illusion of a safety net. If any thing goes wrong with investments, the high net worth will take care of the losses.
Penetration by opening new branches is an idea whose time has gone. In an era of Internet, physical presence is less significant. There are third-party execution platforms such as registrars and stock exchanges which ensure that even though the fund house does not have presence, investors have smooth execution capabilities across the entire country. Excessive emphasis and economic incentive for selling in remote areas actually makes investors from these areas exposed to predatory mis-selling and ultimately they loose faith in such instruments. E-commerce in India is highly successful and should be embraced with an open mind rather than insisting on physical infrastructure.
A financial product is very different from a banking product. Such products require financial professionals with passion and expertise to educate and convince clients of the benefits of the investment process. Investor education is a process and would be achieved by proactive investment professionals. The US has more than 600 AMCs whereas India has just 50.
We have enough checks and balances in place to ensure that investors are protected from professional misdemeanours. Besides, safeguarding one’s reputation is of paramount importance for professionals as, often, this intangible asset is the only one they possess. Hence I intuitively feel that they are likely to exercise much greater care compared with a conglomerate for whom this is only one of many activities. Why not reduce the capital requirement or do away with it all together? After all, if entry barriers have to be imposed, let them be intellectual rather than monetary.