Do mutual funds pay maximum commission to their associate distributors?

As per the disclosures made by mutual funds (MFs) and the Association of Mutual Funds of India (AMFI) — the MF industry’s trade body — banks and national distributors are among the 20 largest distributors in the country by way of their commission income.

A deeper analysis of commissions indicates that bank-sponsored fund houses relied heavily on their parent bank’s branch network or associate distributors to sell their MF schemes.

For the financial year 2022-23 (FY23), data available with the Prime MF Database showed that NJ India Invest was the biggest mutual fund distributor (MFD) in terms of commissions earned at Rs 1,539 crore. It was followed by State Bank of India (Rs 905 crore), HDFC Bank (Rs 669 crore), Prudent Corporate Advisory Services (Rs 583 crore) and Axis Bank (Rs 542 crore).

All in the family

Data sourced from the Prime MF Database shows that the top five commission-paying asset management companies (AMCs) are all backed by banks.

SBI Mutual Fund, India’s biggest fund house, is backed by the State Bank of India (SBI). The fund house paid a total of Rs 1,675 crore as commission in FY23. In fact, SBI, which also acts as one of the distributors of SBI MF schemes, was the biggest recipient of the commission from the fund houses.

SBI MF paid a total of Rs 874 crore to SBI, which is 52 percent of its total commission outgo.

“The bank’s AUM (assets under management) is Rs 1.50 lakh crore, on which the commission paid by SBI MF is hardly 0.6 percent. Don’t look at the absolute commission; look at the assets mobilised by SBI. There’s no red flag at all,” said D.P. Singh, Chief Business Officer, SBI Mutual Fund.

Singh has a point. To be sure, the quantum of total commission paid to a distributor doesn’t mean the highest commission rate. With over 22,000 branches across India, it is to be expected that the SBI would get a large chunk of inflows. As per the Prime MF database, nearly 32 percent of gross inflows in FY23 into SBI MF have come from SBI branches.

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Further, ICICI Prudential Mutual Fund, which paid Rs 1,387 crore as MFD commission in FY23, paid around 20 percent (Rs 274 crore) of its commission to its sponsor, ICICI Bank. Nearly 6 percent of the fund’s gross inflows came from ICICI Bank. Another 1.65 percent came from ICICI Securities.

Then, Kotak Mahindra MF paid a commission of Rs 1,137 crore in FY23 followed by Axis MF (Rs 1,106 crore) and HDFC MF (Rs 1,082 crore).

In fact, there are 13 bank-sponsored AMCs in India, and in total, they paid Rs 7,884 crore as commission. These AMCs paid 8-53 percent of their total commission outgo to their associate partners, including sponsored banks.

Among the top 10 bank-sponsored MFs, UTI MF’s commission outgo to associate distributors was the lowest at 6 percent for Axis Bank. The MF has other associate sponsors, but they didn’t feature in the top-3 list in terms of commission paid.

On the other hand, Baroda BNP Paribas MF had the highest commission outgo to associate distributors, Bank of Baroda and Sharekhan, at 53 percent.

Nearly 34 percent of Baroda BNP Paribas MF’s gross inflows came from the Bank of Baroda.

Partnership helps

Distributors are the backbone of the Indian asset management industry, connecting investors with suitable MF schemes. Their importance can be gauged from the fact that fund houses paid commissions worth over Rs 12,000 crore to MFDs in FY23.

MFs are sold to investors through entities such as distributors and agents. These distributors perform two functions. They act as agents for the AMCs, helping them sell their schemes. They also act as advisors to investors, helping them choose a scheme suited to their needs.

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An MFD receives payments from an AMC based on how long the investor stays invested. This is called the trail commission.

Natural tilt

Partnering with banks is an easier and more effective way for MF houses to extend their reach across India. Banks, especially public sector banks (PSBs), have a wider penetration into the B-30 cities in India, which has become a major contributor of new investors into the MF industry.

As per the Securities and Exchange Board of India (SEBI) classification, T-30 refers to the top 30 geographical locations in India, and B-30 refers to the locations beyond the top 30.

Additionally, for banks, selling MF schemes is part of their offering of all-round banking and investment options. Further, a fund house uses the bank’s network for marketing its new fund offers, which helps in increasing the asset size.

“It’s natural for distributors to offer schemes from their associate fund houses. Not just that, but it’s also something that many investors would expect. After all, consumers often choose a financial brand on the basis of trust, and they would expect to go to, for example, an SBI branch to invest in an SBI Mutual Fund. You cannot expect them to change their behaviour to conform to the regulatory structure. If you contact HDFC Bank to take out a housing loan, you do not expect your actual lender to be Bank of Baroda,” said Dhirendra Kumar, Chief Executive Officer (CEO), Value Research.

Kumar added, “From the business side too, as commissions are coming down, only your sister concern or sponsor bank may be willing to work with you on reasonable terms, while standalone distributors would negotiate for higher commissions. I believe it would be difficult for SEBI to regulate distributors on this issue. Plus, it must be noted that rampant mis-selling of mutual funds has come down drastically.”

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The capital market regulator SEBI is expected to come out with a consultation paper to rationalise the expenses that MFs can charge their investors. Ironically, this is the second paper that SEBI is expected to put out after it withdrew the first one after being convinced that the drastic cuts it had proposed the first time were not really warranted given the new data it came across. Still, the revised proposal is expected to make a small dent in the income of distributors.

A good advisor

Out of Rs 7,832 crore paid out as commission by the top 10 bank-sponsored MFs, Rs 1,862 crore, or around 24 percent, went to their parent banks.

According to experts, a major point of sale for MF schemes is that individuals don’t get in-depth advice on their investment decisions.
While the investor’s individual circumstances are most familiar to themselves, a good advisor or distributor asks pertinent questions and offers a broader context.

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“Commissions need to be designed to align with the interests of all three parties — the AMC, distributor, and client — so that they encourage long-term participation by investors. Returns must be the last thing on investors’ minds; they should be focused on financial goals and risk,” said an MFD on condition of anonymity.

After the portfolio is assembled, it needs continuous monitoring, both at the scheme and portfolio levels. This is an ongoing responsibility. An advisor/distributor helps you review these schemes too.