Mutual funds serve as a popular investment option for individuals aiming to diversify their portfolios and benefit from expert fund management. However, acquiring these funds can significantly impact your returns, with two primary options: regular and direct mutual funds. To choose the best one for your portfolio, it is a must to understand the basics of direct vs regular mutual funds.
What are Regular Mutual Funds
Regular mutual funds involve intermediaries such as distributors, agents, or brokers who facilitate transactions, provide advice, and offer various services. However, these intermediaries charge a commission or fee for their services, which is covered by the mutual fund company. This cost is then passed on to investors through the fund’s expense ratio. The expense ratio, an annual charge, is deducted from the fund’s assets to cover operational costs. A higher expense ratio leads to lower returns for investors.
What are Direct Mutual Funds
Direct mutual funds are purchased directly from the asset management company (AMC) or fund house without intermediary involvement. You can buy direct mutual funds from the AMC’s website, online platforms, or dedicated apps offering direct plans. Opting for direct mutual funds means avoiding commissions and fees for intermediaries. Consequently, direct mutual funds typically feature lower expense ratios than their regular counterparts, resulting in higher returns for investors.
Key Difference Between Regular and Direct Mutual Funds
| Criteria | Regular Mutual Funds | Direct Mutual Funds |
| How to buy | Through an intermediary, like a distributor, agent, or broker | Directly from the fund house or online platform |
| Expense ratio | Higher, includes the commission paid to the intermediary | Lower, does not include any commission |
| Net asset value (NAV) | Lower, reduced by the expense ratio | Higher, not affected by the expense ratio |
| Returns | Lower, expense ratio impacts returns | Higher, savings from expense ratio are compounded |
| Services | Access to expert advice and intermediary support | No intermediary, self-research and decision-making |
| Suitability | Beginners or passive investors seeking guidance | Experienced or active investors managing their portfolio |
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The primary distinction between regular and direct mutual funds lies in the expense ratio.
As discussed earlier, regular mutual funds have higher expense ratios due to the commissions paid to intermediaries, which can range from 0.5% to 1.5% annually, depending on the fund type and category. While this difference may seem minor, it can significantly impact your returns over time.
For instance, consider investing Rs. 10,000 in both a regular and a direct mutual fund with the same portfolio and performance, except for the expense ratio. The regular fund has an expense ratio of 2%, while the direct fund has an expense ratio of 1%. Assuming a 10% annual return, after 10 years, your investment in the regular mutual fund would grow to Rs. 21,911, whereas the direct mutual fund investment would grow to Rs. 23,673 – a difference of Rs. 1,762, or 8%, primarily attributable to the expense ratio.
This discrepancy becomes even more pronounced when considering systematic investment plans (SIPs) with monthly investments. For instance, investing Rs. 1,000 per month in both a regular and a direct mutual fund with the same portfolio and performance reveals the same expense ratio differences.
The regular fund features an expense ratio of 2%, while the direct fund maintains an expense ratio of 1%.
Assuming a 10% annual return, after 10 years, your total investment in the regular fund would be Rs. 1.97 lakh, with a corpus of Rs. 2.59 lakh. In contrast, your total investment in the direct fund would amount to Rs. 1.97 lakh, with a corpus of Rs. 2.83 lakh – a difference of Rs. 24,000, or 9.3%, primarily due to the expense ratio.
Choosing Between Regular and Direct Mutual Funds
Your decision between regular and direct mutual funds hinges on your preferences, knowledge, and investment objectives. If you are a novice or a passive investor seeking guidance and advice, regular mutual funds may be a suitable choice. Nevertheless, it’s essential to be cognizant of the associated costs and their impact on your returns. Comparing the performance and ratings of different types of mutual funds and intermediaries is crucial before making an informed decision.
On the other hand, if you are an experienced or active investor capable of conducting your research and decision-making, direct mutual funds can offer a more cost-effective choice. You can save on commissions and potentially earn higher returns. However, be prepared to take responsibility for your investment choices, regularly monitor your portfolio, and make adjustments in line with your goals and market conditions.
Switching from Regular to Direct Mutual Funds
For investors already involved in regular mutual funds and desiring to switch to direct mutual funds, here’s a step-by-step guide:
- Visit the asset management company’s (AMC) website or an online platform offering direct plans.
- Log in using your folio number and PAN. Select the option for switching from a regular to a direct plan.
- Choose the scheme and the amount you wish to switch.
- Confirm the details and submit your request.
However, bear in mind that switching from regular to direct mutual funds is considered a redemption from the regular plan and a purchase in the direct plan. This means you may incur exit load and capital gains tax based on your investment type and duration. Therefore, it’s essential to assess the tax implications and the potential impact on your returns before making the switch.
Conclusion
Regular and direct mutual funds offer two distinct approaches to investing in the same fund, with varying expense ratios and returns. Your decision between them should align with your investment goals, knowledge, and preferences. You can also switch from regular to direct mutual funds, but it’s crucial to consider the associated costs and tax implications. Additionally, it’s wise to compare the performance and ratings of different mutual funds and platforms before making an informed investment decision. Ultimately, the choice between direct and regular mutual funds depends on individual circumstances and objectives.
FAQs
Direct funds are cost-effective but require self-management. Regular funds offer expert guidance but may have conflicts of interest. Your choice should align with your financial goals and expertise.
Regular funds provide professional guidance, saving you time and helping avoid common investing mistakes. They also offer a wider range of funds and can help you diversify your portfolio effectively.
Direct mutual funds can be challenging to select and require ongoing monitoring. You’ll also need to manage administrative tasks and deal with the fund house directly.
Regular mutual funds can accelerate your financial goals, reduce stress, and enhance your learning and confidence. The intermediary offers optimisation, market insights, and education to improve your investment experience.
A good total expense ratio (TER) balances low costs and quality fund management. For actively managed funds, it’s typically between 0.5% and 0.75%, while for index funds, it’s around 0.1% to 0.2%. However, these figures can vary based on the fund type and market conditions.
The total expense ratio (TER) in a mutual fund is the percentage that represents the total cost of operating the fund. It includes management fees, administrative fees, distribution fees, and other expenses.
The total expense ratio (TER) is deducted from a mutual fund’s net asset value (NAV) daily. This reduces the NAV and, subsequently, the returns of the fund. For example, if a fund has a TER of 1% and an NAV of Rs. 100, it will deduct Rs. 0.01 daily, resulting in a lower NAV published by the fund house each day.
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Disclaimer: Investments in the securities market are subject to market risks; read all the related documents carefully before investing.