Are you a fintech startup?
Are you too planning to offer algorithm based advisory (robo-advisory) through your platform?
Is your company a “one-stop-solution” for investors looking to investment in stock markets?
If you have answered YES to any one of the questions, then let me break the news to you.
You come under SEBI’s purview. In other words, you need to comply with SEBI Regulations.
As it stands today, Robo Advisors come under the ambit of SEBI (Investment Advisors) Regulations, 2013.
What are Robo Advisors?
Robo Advisors are financial advisors or wealth management companies, which offer automated investment advice based on the pre-set algorithms. The algorithm takes inputs in the form of answers to pre set questions from the investor and offers a recommended portfolio for the user of the service.
There is minimal or no human intervention. Some Robo-Advisors extend the advice piece to offer “one-click” execution of the portfolio.
Although there is no ‘specific’ regulation on the Robo-Advisory business, providing advice on stocks and mutual fund (securities) depending on a particular client’s needs and situation is covered under Investment Adviser’s or IA regulations.
If you have not done so, you need to apply to SEBI for a license.
So, what are the requirements for getting SEBI’s license?
#1 — An entity
SEBI has clearly said that an individual cannot provide, both, advisory and execution services. So you need an entity i.e a company or a Limited Liability Partnership (LLP) to provide Robo Advisory services.
As per SEBI IA regulations if an Investment Adviser is providing advisory as well as execution services then both the services should be offered separately. Separate here means a separately identifiable department or division.
Segregating the activities and having separate departments is possible only in case of a company or an LLP.
Please note here that a partnership firm is also considered as an Individual and hence cannot provide both the services under one roof.
#2 — Networth
The networth of the entity should be minimum Rs. 25 lacs. In calculating the networth, the networth of the promoters / partners / directors will not be considered.
While calculating the networth of a company, its paid up capital and free reserves are considered. And in case of an LLP, it is the total contribution of the partners.
The networth should be certified by a Chartered Accountant in practice.
#3 — Infrastructure set-up
The entity needs a proper infrastructure set-up to provide the services to the clients. Infrastructure includes:
· office space,
· office equipment,
· furniture and fixtures,
· communication facilities,
· research capacity,
· research software for undertaking investment advisory services, etc.
#4 — Qualification and certification requirements
The qualification and certification requirements are mentioned in the regulation itself. In case of a company, the directors and the employees who are involved in providing the advisory services need to fulfill the qualification and certification requirements. In case of LLP, the partners or employees involved in such services need to fulfil the requirements.
Read more : Qualification requirements by SEBI
The question that arises here is: since Robo Advisory does not have any human intervention, who needs to fulfil the qualification and certification requirements?
In my view, the persons who are involved in creating the rules for the algorithm need to fulfill the requirements.
#5 — Provision for SEBI fees
Currently, SEBI application fee for a company and LLP is Rs. 25,000. This has to be paid before submission of the application to SEBI. After the application is processed and approved by SEBI, the registration fee is Rs. 5 lacs.
However, in the second consultation paper issued by SEBI in June 2017, SEBI had proposed to reduce fees for registration of company and LLP as an IA. The proposal is yet to be included in the regulations.
In case you are a foreign entity and want to provide advisory services, you need to first set up a subsidiary in India and then apply to SEBI for registration.
As mentioned before, there are no specific regulations or requirements for Robo-Advisors.
However, in the consultation paper issued by SEBI in October 2016, SEBI had suggested the following compliance requirements for Robo-Advisors:
1. Risk profiling of investors is mandatory
2. All investment advice should be appropriate to risk profile of the client
3. The records pertaining to risk profiling and risk assessment of the client and suitability assessment of the advice being provided shall have to be maintained by the investment adviser for a period of five years.
4. It should be ensured that the automated tools used are fit for the purpose;
5. Robust systems and controls should be in place to ensure that any advice made using the tool is in the best interest of the client and suitable for the clients;
6. There should be proper disclosures to the clients in relation to how the tool works and its limitations of the outputs it generates;
7. There should be comprehensive system audit requirements in place;
8. Investment adviser using the tool will be held responsible for the advice;
9. The automated tools used by the advisers shall also be subject to audit and inspection.
This should provide a fair guidance as to what Robo-Advisors need to take care of. Since the suggestions were issued under the IA regulation, it is also clarified again that it is the IA regulations that apply to Robo-Advisors.
What is not clear?
In recent times, a lot has been written about mutual fund distributors, investment advisors, and segregation of their business activities, etc.
So, SEBI has proposed that if an IA is providing execution services too, it has to be done through a separate company and not through a separate department.
However, no clarification has been issued for Robo-Advisory business.
Most of the Robo-Advisory platforms offer advisory and execution at one place. If that proposal becomes a regulation, I am not sure how will Robo-Advisors work? Will they have to also separate their businesses? Unlikely since that works against the Robo-Advisory proposition.
My view is that if an Investment Advisor or a Robo-Advisor is providing execution services, say in mutual funds, it has to be in direct plans. With direct plans, there is no brokerage / commission payouts for providing execution services. Hence, the need for separate company or separate department can be done away with.
For several aspects of IA business, it is a wait and watch. The regulation is evolving and the participants will have to adjust to that.
SEBI Again Bowls A Googly with Consultation Paper On Investment Advisers Regulations
JANUARY 3, 2018 SEBI
On January 2, 2018, SEBI issued the third consultation paper on amendments to SEBI (Investment Advisers) Regulations, 2013.
It is to be noted that SEBI has already issued two consultation papers in the past.
Click here to read the highlights of the first consultation paper.
Click here to read the highlights of the second consultation paper.
Click here to read the latest (third) consultation paper.
As per the proposals mentioned in the latest consultation paper, SEBI takes a hardened stance to “prevent the conflict of interest between ‘advising’ of investment products and ‘selling’ of investment products by the same entity/person”.
The fresh stance is in the way SEBI takes on the business set up of Investment Advisers involving associates and relatives.
SEBI has proposed that the individuals or entities who want to get registered as Investment Adviser cannot offer distribution services through their relatives / associates respectively.
Also, the role of Mutual Fund Distributors (MFDs) is only to distribute mutual funds but not advice. However, they will be responsible to ensure “appropriateness” of the mutual fund investment opted by the investor.
In its desperate need to solve the issue of conflict of interest, SEBI has asked the registered Investment Advisers to choose between advisory and distribution activity.
Any entity has to decide the same by March 31, 2019.
So, is there clarity on the role of MFDs and RIAs (Registered Investment Advisers)?
SEBI seems to have given some clarity through the latest consultation paper.
The first point of the consultation paper states:
“There should be clear segregation between the two activities of the entity i.e. providing investment advice and distribution of the investment products/ execution of investment transactions.”
SEBI has made it ample clear that there should NOT be any conflict of interest between the two activities. It is evident from the paper that one cannot get into an arrangement where either of the services is offered through relatives or associates. Apparently, some MFDs / RIAs do that to circumvent the regulation.
All good, however, the consultation paper does not take into consideration genuine cases where entities are Investment Advisers as well as Distributors of financial products or are distributing financial products through their associates by making adequate disclosures.
Also, there is no clarity on the activities of ‘Robo-Advisory’ where the investors are offered advisory as well as execution services.
This leaves a lot to be asking.
What SEBI should have proposed?
SEBI seems to be unaware of ground realities of business.
Ideally, a client wants a single touch-point relationship where she gets advice as well as execution services.
As long as the adviser offers execution in a separate entity format with adequate disclosures, it is none of SEBI’s business to go down micro-managing.
RIAs can be allowed to offer direct plans of mutual funds as well as any products where they don’t receive transaction based consideration.
It is better that SEBI should allow RIA / MFDs to offer advice as well as distribution of financial products with following conditions:
1. The applicants can receive either fees or commissions, but not both.
2. There should be proper, clear and adequate disclosures for the commissions received by the applicants.
3. SEBI can put a cap on the percentage of commissions given by the issuers of financial products. E.g. SEBI can put a cap of 0.75% commissions on mutual funds across all Asset Management Companies.
OR
3. SEBI should treat mutual fund distribution and stock-broking activities at par so that like stock-brokers, even MFDs will receive standard commissions directly from investors.
The competition will take care of the rest.
How should Investment Advisers read into the new consultation paper?
First, don’t panic.
Applicants and Investment Advisers should take into consideration all the three consultation papers issued by SEBI.
Clearly know that SEBI wants IAs to NOT offer any commission based products. You have to make a choice but in what way, is not very clear.
Can you offer direct plans of mutual funds? Or Execution is not allowed at all?
I am sure you have more questions.
The consultation papers have confused rather than clarify matters. The consecutive consultation papers have mapped quite different paths. The third consultation paper released on January 2, 2018 was the most radical in its prescription. It sought to sharply divide between advisory and distribution.
It wanted to proscribe advisors from doing product distribution, through a separate department or even through an associate company (defined as anything where the advisory firm/ directors/ partners collectively have 15 percent or more beneficial interest).
In the case of individual advisors, it wanted them to choose either advisory or distribution and sought to prohibit near relatives from agency work. It also wanted to restrict MF distributors to no longer offer any advice but rather stick to just explaining the product and ensure product appropriateness.
Existing investment advisers who were offering both advisory and distribution were to decide what they want to do before March 31, 2019, as per this consultation paper.
ROBO Advisers Startups (MF Distribution Platforms impacted 2019)
Orowealth/WealthTrust
Scripbox
Groww
Invezta.com — My Favorite (Complete Dashboard for Risk/Return)
Wealthy
ArthaYantra
Monitree / www.jarvisinvest.com
Mymoneysage
CashRich
Paytm Money
ET Money
Paisabazaar
ClearFunds
Kuvera
Jama