Challenges faced by robo advisors
Robo advisors are automated portfolio managers that suggest how one should invest for their future. While they sound beneficial, firms providing these services are sailing through rough seas due to the regulatory overhang.
Sunday September 11, 2022,
4 min Read
Automation is rife. From machines and vehicles to transactions and services, almost everything is getting automated. The financial services industry, too, is catching up.
Mostly an underpenetrated niche in India, Robo Advisory is set to revolutionise financial planning for the common man. Robo advisors are basically automated portfolio managers. Based on user’s inputs about their resources and profile, the automated platform runs a few algorithms and suggests users how one should invest for their future.
The user is asked basic questions about his earning and spending profile, EMIs, planned goals, existing investments, etc., in the form of questionnaire(s). These inputs are then processed using predesigned algorithms to recommend future plans of action for the user.
The most important benefit of such a platform is that it doesn’t require the user to have much investment know-how. Considering the fact that just around 25% of Indian population is financially literate, a robo advisory tool bodes really well. Plus, it isn’t much time-consuming to use such a platform, the advice is unbiased, and strategies quite simple to practice.
As beneficial as it sounds for users, firms providing these services are sailing through rough seas due to the regulatory overhang. For starters, robo advisory firms are classified as ‘investment advisors’ by the SEBI and have to comply with the stated norms. And some of these norms aren’t exactly very convenient per se.
Inconvenience in making payments
SEBI requires payment of fees to investment advisors in modes other than cash deposits and payment gateways for the purpose of audit trails.
However, this doesn’t make much sense. Payment gateways, wallets, and debit/credit cards have as good an audit trail as possible. Besides, these are more convenient in comparison to other modes of payment. This rule is a roadblock for many clients willing to take investment advisory services.
Not much incentive
Robo advisors have the option to either follow a fixed-fee model (not more than Rs 1.25 lakh p.a.) or an asset-linked model (capped at 2.5% of assets under advice p.a.).
Firstly, a flexible structure allowing a combination of both models would have been a logical arrangement. Besides, the maximum fees allowed is not enticing enough for an advisor to keep generating outstanding returns year after year.
Most probably, these caps were introduced to keep robo advisory at par with the mutual funds industry. However, the disparity in both these industries in terms of size, coverage of service, penetration, AUM, and number of players should have been considered.
Inappropriate cancellation policy
Regulations also restrict collection of fees in advance for not more than six months, and in case of cancellation, forfeiture of fees not exceeding a quarter.
However, this structure doesn’t go well with advisory service. The reason being that once the advisor delivers an initial action plan to the client, that’s good enough to get going for a year or so, unless there is a change in the financial profile that requires a rebalance. Once such a plan has been delivered and investment recommendations given, there is always this risk that the client may not continue after the six months he paid for or may cancel the service agreement to lose only a quarter’s fees. But in such a case, the advisor loses one year of service with just a quarter’s compensation. This makes advisors hesitant to provide discreet advice for the long term.
These are a few of the regulatory issues troubling investment advisors. Besides this, there have been frequent regulatory changes in the past, which has created a fear of uncertainty among advisors, discouraging investments in the field.
The regulator has also become strict in terms of qualifications and net worth requirements for becoming an investment advisor. It’s understandable that all of these norms are for the benefit of retail investors; but considering a meager advisors-to-investors ratio, the regulator could as well come up with some common grounds for mutual benefit.
The regulatory body could reconsider the adverse impact of these regulations and frame policies that incentivise investment advisory, which is presently a niche in India.
Edited by Megha Reddy
(Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the views of YourStory.)