Whenever we talk about investing in mutual funds, our entire focus is only on the returns, past performance of the fund and its category. We calculate which fund has given the highest profits. But in this entire investment process, there is one ‘silent factor’ which is often ignored and that is the cost of investment. Specifically, the difference between direct and regular mutual fund plans. This difference may seem like 1% or even less, but over a long period like 20 years, it can silently wipe out a huge amount of Rs 10 to 15 lakh from your investment.
If you don’t pay attention, you may suffer an injury worth Rs 15 lakh.
Equity funds have given excellent returns in the long run. According to Value Research data, out of 82 equity funds with a track record of more than 20 years, 48 have given annual returns (CAGR) of more than 12 percent. In this, the best fund had a return of 17.31 percent, while the lowest performing fund also gave a return of about 9 percent. Therefore, estimating 12 percent returns is a logical step for long-term financial goals.
But the real game is the cost expense ratio. According to AMFI registered mutual fund distributor Abhishek Bhilwadia, choosing a regular plan for an investment of Rs 10 lakh for 20 years can lead to a huge loss in returns. Understand this from a mathematical perspective. If you invest Rs 10 lakh in a lump sum in a direct plan and get a return of 12 percent, then after 20 years this amount will become approximately Rs 96.46 lakh. At the same time, due to 1 percent more cost in the regular plan, you will get 11 percent return and this amount will be only Rs 80.62 lakh. That means a direct loss of Rs 16 lakh. Even if you do a SIP of Rs 10,000 per month, this difference still amounts to more than Rs 12 lakh.
Where is your money going in the regular plan?
The regular plan costs more because it includes the distributor’s commission, which usually ranges from 0.5 percent to 1.5 percent annually. Taking the example of Nippon India Pharma Fund, the expense ratio of its regular plan is 1.82 percent, while that of the direct plan is only 0.93 percent. You do not have to pay this commission separately from your pocket, rather it is included in the expense ratio of the fund. Over time, this uninvested commission becomes an ‘invisible leakage’ in your wealth creation, because you do not get the benefit of compounding on the money lost in commission.
So should one always choose direct plan?
At first glance the Direct Plan seems to be a clear winner, but in reality there is another side to the picture. Many times this difference in cost is not 1 percent but between 0.4 to 0.6 percent. You can consider this additional cost as a necessary fee and not just a commission. This fee is paid to you for financial planning, choosing the right fund, monitoring the portfolio and most importantly – providing advice during extreme market fluctuations.
When the market falls, many investors withdraw their money in panic or make wrong bets at the wrong time. At such times, a good advisor prevents you from taking wrong decisions. In that case, this additional fee of 0.5 percent can save you from a much bigger loss than the expense ratio loss.
What should be your plan?
The choice of direct and regular completely depends on your knowledge and discipline. If you understand mutual funds deeply, can do your own research and have time to rebalance your portfolio, then a direct plan is best for you. But if you are confused about choosing the right fund and need guidance when the markets fall, then paying a little more for the regular plan is completely justified.
Most importantly, investment decisions should not be based only on cost or returns over the last 5-10 years. The consistent performance of the fund, the level of risk, the strategy of the fund manager and its alignment with your financial goals determine the basis of a successful investment. But keep an eye on the cost during this entire journey, so that you do not unknowingly lose a large part of your income.
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