In a recent communication to the mutual fund industry, the Securities & Exchange Board of India (SEBI), the financial markets regulator, has told fund houses to remove misleading advertisements and stick to the advertising code. This comes in the wake of rising incidents of fund houses issuing promotional material to market their products by mentioning future projections on returns. SEBI felt that such a ploy violated advertising guidelines. Mutual funds are not supposed to assure returns to attract investors to their schemes.
Fund houses, of late, have been issuing illustrations that use assumptions to explain concepts such as accumulation and distribution of money. Some fund houses have forecast future returns while explaining how systematic investment plans (SIP) can help create a large corpus of wealth over a period of time. In some cases, the functioning of systematic withdrawal plans (SWP) was being explained using future returns.
In such illustrations, mutual fund houses have assumed linear returns across time periods. Though the returns assumptions may not have been outrageous, the very fact of assuming linear returns over a period of time is most often misleading and not in sync with what happens in reality. In the actual world where there are various factors impacting the financial system, there is also a high probability of loss on one’s investment. But the advertising and promotional material will never include such illustrations as it would deter investors.
Also, while mutual funds may want to keep the returns projections relatively conservative at around 12 percent in equity funds, it can be well argued that this estimate may not work over a long period. If this trend of misleading projections was left unchecked, some distributors may have wanted to create their own marketing material with an even higher rate of return to boost their business.
Each asset class and product within that class leaves ample scope for variation in assumptions. That leaves a large playground for misselling if these advertisements and promotional material were not curtailed. SEBI’s move to curb the practice is a step in the right direction. To their credit, mutual fund houses, too, have taken quick remedial measures and withdrawn such material. They have also sent out emails to the distribution community in compliance with the new directives to destroy/remove/shred the advertisements, brochures, marketing material and pamphlets with immediate effect.
Protection of investor interest should be paramount for regulators and capital market entities. For instance, insurance products with investment components offer illustrations with returns of 4 percent and 8 percent as per the regulatory diktat. Regulators have to take cues from SEBI's directive to mutual fund houses and make the marketing campaigns of financial products, not necessarily investment instruments, more transparent in the interest of the consumer. In a market where financial literacy is low, the chances of gullible consumers being taken for a ride by financial entities through savvy marketing cannot be ruled out.
For example, the trend of availing loans has been fast gaining ground. The younger generation is often looking for instant loans. As a result there is a lot of buzz around products like Buy-Now-Pay-Later (BNPL) and lenders are geared up to push credit as quickly as possible through these innovations. It is high time marketing campaigns linked to such products also make customers aware of the downside while going for such borrowing plans.
One of the things that can be highlighted to empower consumers to take informed decisions is the impact on interest rate movement on loan products. For example, exactly two years ago, interest rates on home loans were quoting lower than the yield on the 10-year government bonds. That was an anomaly. How many middle-class individuals in India are better placed to raise money at lower rates than the government? The situation changed dramatically with the rise in interest rates in the past year. Today the 10-year benchmark bond yield has not moved much but the interest rates on floating rate home loans have gone up by 250 basis points. As a result, home loan borrowers are now feeling the pinch with floating rate loans being repriced upwards along with EMIs going higher, often to unmanageable levels. Did any lender warn a potential borrower of the likelihood of the scenario of interest rates rising incessantly? The answer most certainly is no. Their marketing campaigns only focused on the low interest rates being offered at that time. This may be the time to consider making it mandatory for lenders to advertise the product in a responsible manner. Lenders can be asked to make borrowers aware of the possible impact of interest rate movement through illustrations on impact on loan repayment in different interest rate scenarios.
Financial markets are dynamic and bring out many complex products to cater to ever-evolving needs of individuals. Regulators need to ensure responsible behaviour of entities in this field.
(Sarbajeet K Sen is a senior financial journalist)