There is merit in Sebi’s circular as it gives better confidence to unitholders of mutual funds.
If a service provider has skin in the game, it does impart confidence to the consumer. However, it is a relative and subjective aspect. If I enjoy Starbucks coffee, do I really bother if 20% of beverage intake of the staff there comprises coffee of that brand? If I enjoy alcohol of a particular brand, am I concerned whether the employees of the firm take alcohol instead of tea or coffee?
There is merit in Sebi’s circular dated 28 April mandating 20% “skin in the game” of key AMC employees, as it gives better confidence to unit-holders. It may be argued that the analogies of tea or coffee are not appropriate, as one is a case of taste and preference and the other, i.e. investments, is a case of trust and faith. Having said that, this regulation of 20% stake is unparalleled.
Since this is out-of-the-box thinking, let us debate another out-of-whack counter to the requirement of 20% stake. The subject line of Sebi’s circular says alignment of interest of key AMC employees with unit-holders. This implies, though not in so many words, that otherwise there may be a lack of alignment of interest. To extend the logic, if there is 100% alignment, it will be a best-case scenario and the schemes will be best managed.
On a pilot basis, let there be a regulatory sandbox to promote an investor-run scheme. Let an investor association take the initiative to pool together investors who believe skin in the game is the better way to align interests rather than professionals. In the pilot fund, there would not be any external fund manager. The investors, who have put skin in the game, would pool in resources. Voting in investment decisions would be in proportion to holdings, e.g. an investor with 5% in the scheme will have 5% voting rights and one with 1% exposure will have 1% weight in voting.
There would be periodical investment meetings where unit-holders will review instruments in the portfolio and discuss new investment opportunities. The meetings, physical or online, will be open to all unit-holders and all proposals will be put to vote. Members present, in the proportion of their holdings, will decide on the basis of majority. Members with small stakes in the fund, e.g. 0.1% holding should not have any issue with the decision of relatively larger holders, e.g. 5% weightage. Someone with a higher skin in the game should have a bigger say, as s/he has interests better aligned than someone with a smaller exposure.
Let us look at another way of implementing the concept. Sebi mandates that from 1 July, all key AMC employees including heads of all departments (e.g. admin, IT) and dealers will receive 20% of their compensation in the form of units in schemes managed by the AMC. While savings/investment is desirable, all individuals are not the same and situations are not the same. Someone may be in a more demanding cash-flow situation and 20% of compensation being locked in for three years may be difficult for some people. Rather, let it be as a percentage of the investment portfolio and to make it more meaningful, let it be disclosed in monthly fund factsheets and other fund literature. The disclosure would read something like “the fund manager has 50% of his/her entire investments in this fund” or “the CEO has 10% of his/her investment portfolio in this fund”. If it is zero, let that also be disclosed. For advisers/investors, there are multiple parameters to select a fund, e.g. performance, portfolio composition, volatility in performance, fund manager’s “name”, corpus size, AMC pedigree, etc. If skin in the game is an important parameter, investors would prefer a fund with a higher stake of the fund manager or CIO or CEO. Sebi says the objective and focus of investment products is the retail investor. After a period of time, since the disclosure starts in the fund factsheet/other literature, evidence will show what is being preferred by retail investors.
A third approach could be voting on instruments in the portfolio by unit-holders, where there would be periodical online meetings to debate instruments and vote for/against the instrument.
These suggestions are outlandish, but if skin in the game really leads to better fund management, it is worth a debate.