Research Analysts v/s Investment Advisors – Is the Line Blurring ?

Last updated on 1st October, 2024

– Payal Agarwal, Associate and Dayita Kanodia, Executive | finserv@vinodkothari.com 

An investment in knowledge pays the best interest

– Benjamin Franklin

Investment advisors and research analysts, including the unregistered ones have been on SEBI’s radar for quite some time. As per latest data available on SEBI’s website (30th September, 2024), there are 953 Investment Advisors¹ and 1358 Research Analysts² registered with SEBI. Following the consultation paper on review of regulatory framework for investment advisors and research analysts SEBI, in its Board meeting on 30th September, 2024, has approved many of these proposals. While some proposals are aimed at an ease of registration for an entity/ person as an RA/ IA, the CP also contained substantial proposals w.r.t. the activities and functioning of IAs and RAs. 

In this article, we discuss the broad concept of IAs and RAs and a few major proposals under the CP, with our analysis on the potential implications. The fine text of the Amendment Regulations is awaited, for getting the necessary clarity on the position of IAs and RAs, pursuant to the revised regulatory framework.

IA and RA – meaning and distinction

In general parlance, the terms may be used interchangeably mistakenly, and hence, it is important to first of all understand the difference between the two. 

Meaning of “investment advice” 

In order to understand the activities of IA, it is important to understand what constitutes an “investment advice”. Investment advice is defined under clause (l) of Reg 2 of IA Regulations. Investment advice means advice relating to:

• investing in, purchasing, selling or otherwise dealing in securities or investment products, and 
• advice on investment portfolio containing securities or investment products, 
• whether written, oral, or through any other means of communication
• for the benefit of client
• and shall include financial planning 

Investment advice given through publicly available mediums such as newspaper, magazines, any electronic or broadcasting or telecommunications medium, is not considered as “investment advice”. 

In view of the current market practice where IAs are providing investment advice on unregulated products, the CP proposes to clarify the scope of “investment advice”. Reference may also be drawn to a 2021 circular in which SEBI had advised IAs to refrain from dealing in unregulated products, including digital gold.

Hence, the scope of “investment advice” as per the existing IA Regulations and the proposed CP are as: 

Here, the CP proposes to restrict specific investment advice to only “securities” covered under the purview of SEBI and “investment products” covered under the purview of financial sector regulators. Investment advisory w.r.t. other asset classes are required to be segregated completely in another legal entity. 

“Securities” under the purview of SEBI should mean “securities” as defined in SCRA, and listed on the stock exchanges. Advisory w.r.t. unlisted securities are currently also not covered under the scope of IA/RA Regulations, as is clear from SEBI’s IG on LGT Wealth India Pvt Ltd. 

While asset classes such as gold, real estate etc are completely outside the purview of an investment advisor, a question may arise as to whether advisory w.r.t. products such as gold ETF, gold bonds, units of REITs etc will still be covered? The aforesaid, being within the definition of “securities” under SCRA should continue to qualify for an investment advice, without any separate registration requirements. 

Investment products regulated by financial sector regulators may include insurance products, pension products, bank deposits etc, governed by regulators such as IRDAI, PFRDA, RBI etc.  

Linking the scope of research analyst with services provided for consideration only

The term “research analyst” as defined under clause (u) of Reg 2 of the RA Regulations, does not specifically require the existence of the consideration aspect in order to fall under the scope of the RA Regulations. The CP proposes to amend this definition and provide that persons providing research services ‘for consideration’ will only fall within the definition of research analyst under the RA Regulations. 

The term “consideration” as clarified, shall mean “any form of economic benefit including non-cash benefit, received or receivable, directly or indirectly, in any form, whether from client or otherwise, for providing any research services.”

Hence, consideration has been given a broad meaning, and the same need not be restricted to any cash inflows received from the client, but may also take the form of any other non-cash economic benefits, as well as, consideration received from any other person/ entity who may/ may not charge the client for the same. 

One has to also note the provisions of Reg 18(8) of RA Regulations that prohibit an RA to provide a promise/ assurance of favourable review in its research report to a company or industry or sector or group of companies or business group, to commence or influence a business relationship or for the receipt of compensation or other benefits. 

Permitting RAs to provide “model portfolio” recommendations 

The consultation paper also proposes to expand the role of research analyst by providing that services such as recommendation of model portfolio, ‘stop loss target’ and ‘any  other  service  of  similar  nature  or  character rendered by RAs with respect to a model portfolio (basket of securities for which a research report is issued by a RA recommending the relevant weightages for one or more securities mentioned therein) will be considered as research services. 

Assignment of weights is however of essence here since the consultation paper has provided that in case the research report does not ascribe weightages to the components of basket of securities, but is a mere summary or consolidated presentation of securities recommended, then it will not be regarded as a model portfolio. 

Attention is drawn to a Settlement Order passed by SEBI in 2022, pursuant to a show cause notice issued against a research analyst providing model portfolio service to clients. This was considered a violation of the SEBI RA Regulations considering the RA provided advisory services without being registered as an IA, resulting in the RA paying Rs. 28.6 lacs towards settlement. 

What was once perceived as SEBI’s wrath against the RA has now seemingly shifted to SEBI’s pleasure in the current consultation paper, allowing RAs to specifically offer model portfolio services. This raises questions about the previous show cause notice issued by SEBI to an RA for providing model portfolio recommendations. The proposal has been approved by SEBI, although the fine text of the amendments is awaited

This might seem to blur the line between the services provided by IAs and RAs – with RAs providing portfolio recommendations with weightage assigned to each stocks, leaving little room for distinction with the portfolio investment products provided by IAs. 

Engagement in multiple business activities 

An IA is permitted to engage in activities other than IA activities, subject to the fulfillment of the following conditions [Reg 15 of IA Regulations], viz., – 

• Maintaining an arm’s length relationship between IA activities and other activities, 
• Ensuring segregation of IA activities from other activities 
• Disclose conflict of interest of IA activities from other activities 

Further, Reg 22 of IA Regulations require client-level segregation of advisory and distribution services within the family/ group level. For implementation of advice, no fees can be charged from the advisory clients at a group/ family level and can be provided only through direct schemes/ products in the securities market [Reg 22 of IA Regulations]. 

Reg 24(1) prescribes a similar mandate for RAs, to ensure an arm’s length relationship between RA activities and other activities. However, w.r.t. segregation of activities, the RA Regulations only specify segregation w.r.t. RA activities vis-a-vis activities designed to solicit investment banking or merchant banking or brokerage services business. The CP proposes to introduce segregation between research services and distribution services, in line with the present mandate for IAs, to avoid conflict of interest. 

An exemption from the above is also proposed in case of IA/RAs rendering services exclusively to institutional clients and accredited investors subject to the investor signing a standard waiver w.r.t. the same. 

Dual registrations as IA and RA 

SEBI has approved the proposal to permit a person (individual or partnership firm) to register as both IA and RA, subject to ensuring an arm’s length relationship and segregation of IA services from RA services. 

Here, it is pertinent to note that the IA/ RA Regulations currently does not explicitly prohibit a person from obtaining both registrations, however, for IAs engaged in multiple activities, there is a general mandate to ensure segregation of various activities through separately identifiable units/ departments. 

Further, the RA Regulations provide exemption to an IA from obtaining an RA registration for publication/ distribution of research reports to the public. Here, it is to be noted that the exemption to IAs, and other class of intermediaries is only for issuance of research reports to the public, and not to specific clients or identified or selected persons (refer IG in the matter of LGT Wealth India Pvt Ltd).

Registration as part time IA/RA

SEBI has approved the proposal of permitting registration as a part-time IA/RA for individuals and partnership firms already engaged in other business activities, intending to act as an IA/RA. Registration as a part-time IA/RA is subject to the following conditions:

• the person may be engaged in other activities that is not related to securities, 
• the other business activities should not involve handling/ managing funds of a client/ person, 
• such other activity is not related to providing advice/recommendation to any client/person in respect of any products/assets for investment. 
• Exception – Applicants engaged in activity/business/employment permitted  by  any  financial  sector  regulator  or  an  activity  under  the  purview  of statutory self-regulatory organisations such as ICAI

The IA Regulations provide an exemption from registration for professionals providing such services to their clients incidental to their main activity, however, security-specific advice/ recommendation is not covered within the scope of exemption, and attracts registration. 

Fees charged by IA and RA

Under the current IA regulations, IA can charge fee for the services rendered under two fee modes:

1. Assets under Advice (‘AUA’) mode, which is subject to a limit of 2.5% of AUA p.a. per client across all services offered by IA, and
2. Fixed fee mode, which is subject to a limit  of Rs. 1.25 lacs p.a. per client family across  all services offered by IA

The current regulations permit a change in the fee mode only after a 12-month period has elapsed since the last change. However, the CP proposed (as approved in the SEBI Meeting) a flexibility w.r.t. charging of fees by eliminating the minimum lock-in period, thereby, allowing changing the mode of charging fees. The same, however, is still subject to the higher of the maximum fees as per the aforesaid thresholds. 

Additionally, the CP proposes to impose the maximum fixed fee limit on RAs, with an exception to non-individual clients including clients who  are  QIBs,  accredited  investors,  and  to  institutional  investors  seeking recommendation of proxy adviser.

Other Proposed Relaxations

The CP also proposes various relaxations for RAs/ IAs, however, it is not clear as to whether all those proposals have been approved.

Appointment of Principal Officer and Compliance officer

The Regulations presently require RA/ IA to appoint Managing director or designated director or equivalent management body as the Principal officer. For entities engaged in multiple lines of businesses through separate departments/divisions, the CP proposes to permit appointment of the business  head/unit  head  of  such division/department providing investment advisory service as principal officer. However, entities carrying out monoline business will be required to adhere with the existing requirements. 

Further, it is proposed to allow independent professionals such as CA/CS/CMA to be appointed as Compliance Officer instead of the erstwhile requirement of only allowing full-time compliance officers. 

Corporatisation in case of individual IAs

Under the current IA Regulations, an individual IA is required to apply for registration as non-individual IA on or before reaching 150 clients. It is proposed to increase the limit for corporatisation to the earlier of 300 clients at one time, or fee collection of INR 3 crore during the financial year. 

The Consultation Paper has brought a variety of recommendations – while some aiming at relaxing registration norms and ongoing business activities for RAs and IAs, opening the market to new entrants, others focussing on clarifying the scope of activities of these intermediaries, removing therefore the possibility of dealing in unregulated products citing lack of clarity. The recommendations also aim at streamlining the requirements for IAs and RAs. Based on the press release, it seems like most, if not all, of the proposals have been approved by SEBI. 

Our related resources on the topic:

1. Partitioning of advisory services from distribution activities
2. Do’s and Don’ts for Investment Advisors

1. https://www.sebi.gov.in/sebiweb/other/OtherAction.do?doRecognisedFpi=yes&intmId=13 ↩︎
2. https://www.sebi.gov.in/sebiweb/other/OtherAction.do?doRecognisedFpi=yes&intmId=14 ↩︎