Investing in direct mutual funds is becoming an increasingly popular choice for young investors. Mutual fund direct plans typically ensure better returns than regular plans
Let’s look at the two types of mutual funds – Direct Plans and Regular Plans
If you are planning to invest in mutual funds, you need to choose between two types of mutual funds – direct mutual funds and regular mutual funds. The difference between the two funds lies in the way investors purchase the funds.
However, all Mutual Funds give good returns as a long-term investment because of the power of compounding. You can use the Jupiter interest calculator to explore how your investments can benefit from compounding.
In regular plans, the mutual funds are purchased only through a banker, broker or distributor. You pay these third parties a fee, along with other processing or brokerage charges taken with the investment. This results in a high expense ratio – the amount of expenditure you incur to make returns from the mutual funds. Some other expenses incurred in managing a mutual fund scheme include sales and distribution expenses, registrar fees, fund management expenses etc. The expense ratio of the fund covers all these expenses. However, when you invest in a mutual fund direct plan, this expense ratio is reduced, automatically resulting in higher returns. The expense ratio is lower because a direct plan doesn’t charge any commissions. In a regular plan the intermediary charges commissions, that are taken from your overall returns.
In a mutual fund direct plan, you can invest directly with an Asset Management Company (AMC) or a mutual fund app. You don’t need a broker, distributor or banker to complete the investment process; this also helps avoid all the intermediary charges you would otherwise have to pay.
Mutual Fund Direct Plans aren’t a new concept; they were first introduced in January 2013 by SEBI (Securities and Exchange Board of India). SEBI made it mandatory for all mutual fund houses to have ‘Direct Plans’ for all schemes.
By investing in Mutual Fund Direct Investments, the entire financial planning will have to be done by you as an investor, including choosing suitable direct funds, looking at the funds’ offerings, monitoring the portfolio regularly, etc. There is no guidance from a broker, and all the research has to be done by you – the investor – or you will have to rely on research reports by other entities. This could be a good thing as it helps you make strategic investment choices to maximise your investments by keeping track of their returns.
If you choose a Mutual Fund Direct Investment over a Regular Investment, there is a potential difference of 7.7% p.a. in the growth of wealth (because of the power of compounding). This difference may not be noticeable in the short term but is a crucial factor in a long-term investment. A Direct Mutual Fund Plan generates an additional 0.5% to 1% returns yearly, compounded and accumulated over time.
Let’s understand this with the help of an example.
Say you’ve invested in the XYZ Bluechip Mutual Fund. You invest Rs 10,000 every month through a direct mutual fund investment plan. At the same time, your friend invests Rs 10,000 in the same fund but through a regular mutual fund investment plan. Both of you invest this amount every month for 10 years, during which the mutual fund gives a 12% CAGR.
At the end of the 10 years, you will have an accumulated wealth of Rs 18,12,832, while your friend who invested the same amount will have an accumulated wealth of Rs 16,89,230 from this mutual fund. The disparity in returns will be as your friend paid brokerage and other expenses to the bank or broker through which they invested in the mutual fund.
Investing in Direct Mutual Fund plans comes with many advantages. Some of the most apparent ones are:
Since investments are made directly with an Asset Management Company, the expense ratio would be lower than other investment plans.
NAV = Value of assets owned / outstanding units.
The Net Asset Value of a mutual fund is the ratio of the total value of assets owned to the number of outstanding units. These assets can be in the form of equities of various companies and cash instruments or debt instruments such as treasury bills and bonds. Operating expenses are reduced before computing the NAV.
Direct Mutual Fund investments typically have a higher NAV because the expenses in these direct funds are lesser than in regular funds. Seasoned investors also have the freedom to make financially sound investment choices that can increase their NAV.
A lower expense ratio also results in higher long-term returns due to the power of compounding.
Setting goals will help you assess the market and set a target for investments. This way, if your investments are not performing the way you expected them to, you can reconsider your investments.
The historical returns of a specific mutual fund might be great but unless you are prepared for the risk it carries, you may not have a smooth investing journey.
Even if you invest in mutual funds, don’t put all your eggs in one basket. Invest smaller amounts in different funds for a diversified portfolio; this could also help reduce the risk factor.
When making direct investments, you must keep track of your portfolio and ensure you make the right financial decisions based on your risk profile and goals.
You must assess the tax benefits or the tax implications that your investments in direct mutual funds attract as there isn’t a broker who could guide you.
Direct Mutual Funds are great investments for active investors who like to be involved and personally plan their investments. But remember, while you can save on the expenses that regular investments carry, you will have to be more involved with direct mutual funds and keep an eye on market trends to maximise wealth.
Yes, you can convert your Regular Plan investments to Direct Plan Mutual Fund.
Direct Mutual Fund Plans are safe investments only if you understand them. You should choose the right type of direct plan depending on your requirement, availability of funds, and length of time you are willing to invest.
The best way to invest in Direct Funds is by investing online through a mutual fund app like Jupiter. You can also open an account on the website of the fund house, Mutual Fund Utilities, mutual fund platforms or the Registrar and Transfer Agent. Here the ‘Direct plan’ option has to be chosen. For offline investing, you need to physically submit the mutual fund form to the nearest mutual fund branch or RTA office.