The Securities and Exchange Board of India (SEBI) has unveiled a consultation paper aimed at revising the regulatory framework governing investment advisers (IAs) and research analysts (RAs). This proposed overhaul introduces significant changes that are poised to reshape the investment advisory landscape. One of the major proposed changes is the relaxation of eligibility criteria for IAs and RAs, which includes changes to minimum qualifications, certifications, and net worth requirements.
Under the current regulations, IAs must pass two levels of NISM exams every three years. This is an unprecedented requirement globally and feels akin to re-taking major professional exams regularly. The norm in other professions is continuing education certification which is not available for IAs.
Among the other requirements, investment advisers have to perform objective risk-profiling of clients which should include financial detail about clients, including goals, preferences, borrowings, current investments, savings, expenses, personal taxation and so on. IAs have to record suitability of products recommended and also the rationale and of every piece of advice provided and must have a documented process for selecting investments based on the client’s objectives and financial situation.
IAs cannot accept fees through credit cards, imposing limitations on payment methods and have to sign lengthy and intricate investor agreements (26 clauses) which can be overwhelming for clients and resource-intensive for IAs. IAs also have to maintain records written and signed by IAs, telephone recording, emails, SMS messages and any other legally verifiable record for five years.
In a latest move, every six months, IAs will have to declare dozens of minute details over eight pages, shareholding pattern, beneficial owners with more than 10% capital, number of clients, advertisement details, distributor commission, details of social media handles, details of bank account/s for receiving advisory fees, details of contact person, principal officer, IAs providing advice, details of managing director and other directors, etc.
This has kept the profession stunted. There are hardly a few hundred investment advisers even as the investing population has exploded into crores. Waking up to this criticism of overregulation of IA, here are some of the major changes SEBI has proposed.
• Minimum Experience Requirements: There shall be no requirement of five years of experience for registration as IAs and RAs.
• No Post-graduate Requirement: The proposed amendment aims to lower the entry barrier into the advisory profession by relaxing the current minimum qualification requirements. It is suggested to shift from a mandatory post-graduation degree to a graduate degree.
• Certification Flexibility: Under the new proposal, individuals seeking registration as IAs and RAs will only need to obtain base certifications initially at the time of registration. Instead of renewing the base certifications, advisers and analysts will be required to obtain a certification that reflects incremental changes or developments in the regulatory and professional space over a specific period.
• Net Worth Requirements: A notable change in the proposal is the elimination of the minimum net worth requirements for IAs and RAs. Instead of maintaining a minimum net worth at all times, IAs and RAs are expected to maintain a deposit for a specified sum, lien marked to a stock exchange. This deposit will be utilised for arbitration and conciliation proceedings under specified mechanisms if the IA or RA fails to settle their dues. The deposit calculation is proposed to be based on parameters such as the number of clients and revenue and is subject to periodic review by SEBI.
• Overlapping and Part-time Registration: The paper proposes allowing individuals and partnerships firms to have both IA and RA registration and also allow part-time IAs and RAs.
• Relaxations in designation of ‘principal officer’: SEBI may allow a non-individual IA which is engaged in multiple line of businesses through separate departments/divisions, to appoint the business head or unit head of its investment advisory activities, who is responsible for the overall function of the business and operations of the investment advisory services, as its principal officer.
Under the SEBI rules, an RA can provide security-specific buy, sell, and hold recommendations or price targets for its clients and subscribers. However, the research report or recommendation provided by an RA is not customised to the needs of any investor or client. Since both IAs and RAs offer buy and sell recommendations, "there is perceived similarity in the skills and knowledge required by IAs and RAs to discharge their respective roles," as per the paper that SEBI has proposed to address.
SEBI has also allowed RAs to offer model portfolios. Some of the main components of the proposed model portfolio framework include:
- Model Portfolio Report: The model portfolio report format is detailed, requiring the inclusion of constituent securities that are recommended to be covered in the report. It also enforces the periodic rebalancing of the portfolio in line with the RA's assessment of appropriateness.
- Methodology: The methodology for selecting constituent securities is a focal point in the model portfolio report, emphasising the importance of a defined framework for stock selection based on parameters such as fundamental or technical analysis. The report also requires detailed discussions on the underlying universe for stock selection, including categories such as large-caps, mid-caps, or specific sectors.
- Labelling and Investment Horizon: The model portfolio is expected to be labelled appropriately to accurately represent its theme or investment objective. Additionally, the specified investment horizon of the model portfolio in the report enables investors to align the portfolio with their investment period.
- Frequency of Portfolio Review and Update: The report outlines the intervals at which the model portfolio will be updated and rebalanced, ensuring that clients are informed of any changes made and the rationale behind these adjustments.
- Risk Disclosures and Benchmarking: The proposal requires clear disclosure of model portfolio risk, including performance validation by a performance validation agency (PVA) over different time periods. Furthermore, benchmarking the model portfolio with an appropriate and relevant index is also a mandatory disclosure.
The flexibility for IAs to alter the methods of charging fees is set to provide a more adaptable financial model for advisers, aligning their compensation more closely with the unique needs of their clientele. Under the proposed modification, IAs can change the fee mode for a client at any time without restrictions on the minimum period between two fee mode changes. The maximum fee that can be charged by the IA, however, will not exceed the higher of Rs1,25,000 per annum per family or 2.5 %of assets under advice (AUA) per annum per family. This alteration in the fee structure enables IAs to tailor their compensation strategies to suit the requirements of their client base better. Additionally, the ability to switch between fee modes without stringent restrictions offers IAs the advantage of adapting to changing client requirements and market dynamics effectively.
SEBI hopes that the proposed relaxation changes will draw in more advisers to the profession, who have been far outstripped by the explosive growth of investors. However, it is to be seen whether all other existing requirements of record-keeping and detailed audit and disclosure still prove daunting for the profession's growth.
