Why you should never invest in regular mutual funds?
Why you should never invest in regular mutual funds?
A mutual fund is not free from costs. An asset management company (AMC) is a for-profit entity whose aim is to make some profit from their venture. They also have to pay their analysts, operations teams, pay brokerage fees for market participation, and record keeping fees to registrars like CAMS and KFintech, formerly known as Karvy.
A regular plan of a mutual fund has one more additional expense — distributor commission.
Direct plans of mutual funds have no commission, so it has lower fees compared to its Regular plan counterpart. So the Returns will be higher with no extra risk.
Quantum AMC started offering direct plans of their flagship funds in 2006. And Since January 2013, SEBI regulations have forced all AMCs to launch direct plans for each and every mutual fund that they had and would come up with in the future.
However, despite the ease of access, most retail and HNI (High Net-worth Individual) investors still invest in regular plans. This is evident by the fact that most of the mutual fund industry AUM is still in regular plans, and not direct plans. Only 20% of the industry AUM is in direct plans, while rest of it are in regular plans.
When it comes to mutual funds, there are various types of commissions. In this episode, we’ll only focus on recurring distributor commissions.
To understand this, first you should understand expense ratio. Expense ratio of fund is the fees you pay to the AMC to maintain your portfolio. But if you take any mutual funds, expense ratio is different for regular plan and direct plan of same mutual fund.
For Example, if you take Axis bluechip MF, expense ratio of regular plan is 1.82%, whereas expense ratio of direct plan is 0.49%. Difference between these 2 expense ratio is the distributor commission, which goes to the person who sold you this mutual fund. So in this case, you are paying 1.33% additional fees by investing in regular plan of this mutual fund.
But it’s just a difference of 1.33%. It won’t have much impact.
This may look like a very small amount, but remember it is not. This fees will be deducted from the NAV everyday, so you won’t see this fees explicitly anywhere. If you are investing for longtime, this small 1% fees grows higher and higher due to compounding costs and will being down your portfolio returns significantly.
You don’t believe me, just look at this chart.
If you are doing SIP of 10000 rupees every month for 25 years, you will get approx. 3.19 Cr from Direct plans while the returns from Regular plan stands at 2.5Cr. This is the approx. returns considering the expected returns of 15% over 25 years.
Look at the difference between returns – it is 70 Lakh rupees. Almost 1/4 of the returns will be eaten away as commission. So the person who sold you these funds will be getting 70 Lakhs over the years without investing a single rupee. Did he/she did enough for you to earn this 70 Lakhs from your investments, if not it is the free money you are giving them without getting any services in return.
This is Why you should never invest in regular mutual funds in India. Let’s talk about distributor commission in detail in the next episode.
For more details and explanations, watch the video: