Mis-selling can be avoided if you understand your requirements, risk appetite and biases and learn about the product
Mis-selling occurs when you are given unsuitable advice, the risks are not explained, or you are not given the information you require, and you end up with a product that is not right for you. Mis-buying occurs when buyers are entirely unaware of the financial product's details and complexities.
Due to the competitive nature of the financial services industry, sales agents offer the heavens to prospective consumers to reach unrealistic sales targets. Customers are also conveniently ignorant about essential costs. Some people even make promises they know they will never keep. Mis-selling is a term used to describe a situation that borders on fraud. It is what happens when young, unmarried people are marketed endowment policies or when retired people are persuaded to purchase pension plans. Investors in mutual funds are tempted to churn their portfolios every three months, and first-time equity investors are urged to acquire derivatives without being informed of the hazards.
Many agents and brokers say that all they do is a hard sell and that they are compelled to do so to reach quotas and receive commissions. The line separating mis-selling and hard-selling are razor-thin, yet more and more agents are blurring it. Mis-selling is predicted to occur in one out of every four financial products or services sold.
Some common strategies used by the mis-selling agents to lure in gullible investors are:
Unfortunately, there is not much that can be done to prevent mis-selling. That's because unscrupulous or desperate salespeople rarely communicate complete lies to investors; instead, they utilise a clever combination of truth, half-truth, and lies. Mis-selling is notoriously difficult to describe and pinpoint.
Even if neither the client nor the seller understands the goods, some people buy to please a friend, neighbour, or relative. Ego would be another factor. The customer's ego prevents him from admitting that he does not comprehend the product. He convinces himself that if a large corporation is selling it, it must be good because Securities and Exchange Board of India (Sebi) or Insurance Regulatory and Development Authority of India (Irdai) has approved it. Finally, most large transactions are done without professional advice because buyers are unsure of whom to ask.
Here are five easy ways in which investors can avoid falling into mis-selling traps:
1. Avoid impulsive buying: A decision made in haste is often a waste. Even if the product is available for a limited time or the agent claims so, instead of jumping on to buying the product, it is advisable to conduct proper due diligence first. It is important to know various product parameters such as the product's suitability, costs, benefits, alternative products, etc.
2. Don’t be greedy: When greed takes precedence over rational thought, it's simple to make a blunder. Many people put their money in unknown financial products without even knowing what they are investing, overwhelmed by the lure of a significant return. You must never invest in avenues that promise unbeatable returns.
3. After every rise, a fall is inevitable: Financial products are creatures of circumstances. Every financial product is affected by different parameters like volatility, market sentiments, etc. Superior performance cannot be guaranteed. It is not advisable to be a sheep in the hands of the agent. Rational decision-making coupled with adequate due diligence is a vital suit of armor in this world of uncertainty.
4. Ignorance is not bliss: New products are constantly being introduced to the market. A major cause of mis-selling is investors' lack of knowledge of financial goods. Lack of transparency is another cause. If one lacks financial literacy, they can learn how to understand the product or seek the advice of a financial advisor.
5. If you decide to learn about the product, make a checklist: You will need to know about the product's risk and return policies. You may check the following details for any product:
A howl gives the wolf away. Similarly, an aggressive pitch gives away the true intentions of the sales agent. A financial service provider's agent or representative aggressively pitches a product, usually depending on the commission or charge he gets. As a result, it's best not to get carried away with what he says. You must first determine your investing requirements before selecting a product.
One other thing to remember is that even if the agent is a family friend, ask him questions. Agents frequently mis-sell goods like life insurance as investments. Please keep in mind that insurance is a risk-mitigation tool.
By being more vigilant and cautious, you can reduce the likelihood of mis-selling. Make sure you do not buy anything you do not require. Mis-selling prevention methods must be developed over some time. An investor must be aware of his behavioural biases and be willing to act as rationally as possible. Risk tolerance levels must be clearly defined and used to guide investment decisions. Clearly define your goals and prioritise them in terms of importance before making any investments. The investor should calculate the required return for each goal defined and buy suitable assets accordingly. This method of creating sub-portfolios for each goal is known as goal-based investing and will, to a great extent, guide investors’ investment decisions and prevents them from falling into mis-selling traps. Investors can also consult and take help from a reliable financial advisor for a well-guided investment approach.
The Author is the CEO of Tavaga Advisory Services
(DISCLAIMER: Views expressed are the author's own, and Outlook Money does not necessarily subscribe to them. Outlook Money shall not be responsible for any damage caused to any person/organisation directly or indirectly.)