False advertising plagues mutual funds

A local stockbroker is incensed over what he calls “false advertising” in the mutual funds industry, saying it can lead investors to make bad decisions. One such infringement, he said, is an advertisement promoting “annualised” returns for equity-based funds. According to the Managing Director of Bourse Securities Limited, Subhas Ramkhelawan, these advertisements are suggesting to the public that the market will continue to perform along a historical trend line. However, this is by no means the case, he said. “The notion of annualised returns is not consistent with international practice for equity funds, because if you were to hold a pool of shares, the value of those shares go up or down,” he said in an interview. “To annualise suggests that your return will remain at a fixed level into the future and this is not the case. And therefore, advertising in this case can be misleading.”

He called on the country’s handful of mutual fund providers to join forces with a view towards getting an Association of Mutual Fund Providers up and running. Among other things, this association would have the responsibility of regulating advertising in the industry as well as ensuring that proper comparisons are made of all the funds within the system. This approach, he noted, has been taken by more developed mutual fund jurisdictions in other parts of the world. “I think it would be a worthwhile approach in TT,” he said. “It’s either that or else we might become guilty of feeding the public incorrect information on which they will base their decisions to invest. That cannot be correct.” Current legislation, specifically the Securities Industries Act, allows the Securities and Exchange Committee (SEC) to take action against any securities company or institution under its jurisdiction, Ramkhelawan explained.

At present, the Mutual Funds market is booming. In 2003, the market recorded an asset base of approximately $22 billion and industry experts have predicted that this can only go up within the next few months, ultimately overtaking deposits into the commercial banking system. According to Ramkhelawan, since the inception of mutual funds onto the market in the early 1980s, the rate of growth has generally outpaced that of deposits in the banking system. Ramkhelawan’s own investment company, SavInvest, a new kid on the block, outperformed the entire market last year, recording a 57 percent rate of return. Caribbean Equity fell into second place with a 32 percent rate of return for 2003. Ramkhelawan attributed the shift of investor confidence towards mutual funds to the higher rate of returns and flexibility being afforded to investors. Banks, he elaborated, generally institute penalties for early withdrawal of funds, so investors will ultimately lose a percentage of their deposit if funds are withdrawn before time.

Additionally, he noted, the question of the competitiveness of returns of mutual funds as compared to those of the banking system are basically determined by a deposit reserve. In layman’s terms, this means that for every dollar raised by a commercial bank a fraction is paid to the Central Bank reserves. Recent Central Bank reports have indicated a drop in these deposit reserves from 21 percent to 15 percent and they are predicted to decline further within the next two years. “What this means,” the stockbroker said, “is that the Central Bank gets 79 cents for every dollar that is raised to be invested and therefore banks cannot provide any kind of returns to clients.” There are also, he said, some substantial differences between bank deposits and mutual fund. Specifically, bank deposits effectively guarantee the investor a certain rate of return while mutual funds afford the investor all of the returns of his investment, save a management fee paid to the securities company, which purchases the funds. “For example, if the investment is eight percent and the management fee is one percent, then the investor is the beneficiary of the net returns,” he maintained.

“In the other case the bank says that it is giving you six percent but whatever additional benefits that are gained go to the bank. The client only gets that fixed rate of return, but this rate of return is only guaranteed if the bank remains solvent,” he added. Ramkhelawan was of the view that this surplus of investment in mutual funds will not have an adverse effect on the commercial banking sector in the short term, since banks currently had more funds than they could place. But he anticipated that in the medium term financial institutions could move towards raising security bond issues rather than resorting to loans from banks. Right now, the challenge for the banks as well as mutual funds is to find attractive financial investments, he said.