In the universe of mutual funds, an investor chooses two distinct types: direct and regular plans. Both of these plans are designed as per an investor’s preferences and financial goals.
Typically, direct mutual funds are investment schemes which the asset management company (AMC) or fund house provides directly to investors. Investors have the option to purchase such funds directly without involving intermediaries such as brokers, distributors, or financial advisors. This way, it reduces the effort to pay commissions or distribution fees to third-party intermediaries, thus resulting in a lower expense ratio as compared to regular plans.
Generally, the expense ratio is regarded as the fee charged for managing and operating the fund. Investors can access direct plans via the fund’s website or by visiting the AMC or fund house in person.
On the other hand, regular mutual funds are procured via intermediaries, which include brokers, financial advisors, or distributors. These intermediaries are known to offer various services, including investment advice, portfolio evaluation, and transaction assistance, to list a few.
In this case, the AMC or fund house pays the intermediary a commission or distribution fee, which results in a rise in the expense ratio for regular mutual funds compared to direct mutual funds. The commission has an impact on the investors’ overall returns, considering the AMC or fund house passes on these charges to the investor, which influences the overall returns.
Direct and regular mutual funds have crucial differences, including the expense ratio, commission structure, capital appreciation, and target investors. The expense ratio relates to a mutual fund’s annual fees and operating costs.
The absence of broker or advisor commissions in direct mutual funds is the reason for a lower expense ratio. For instance, in the case of a direct mutual fund with an expense ratio of 0.5%, only 0.5% of the assets under management (AUM) are utilised to cover expenses.
In contrary to this, commissions paid to advisors increase the expense ratio in regular mutual funds. For example, a regular fund tends to have a slightly higher expense ratio of about 1%, which means that 1% of the AUM is allocated to cover various expenses, including advisor commissions.
At the same time, net asset value (NAV) is a significant metric in mutual funds, representing the per-unit market value of the fund’s securities. This is calculated by dividing the total fund assets by the number of units outstanding.
Typically, direct mutual funds have a higher NAV, considering their lower expense ratio. This lower expense ratio in direct funds allows a larger portion of the investment to actively generate returns, potentially leading to higher overall returns as against regular funds with higher expense ratios.
For instance, in case an investor parks an amount of Rs 1 lakh in both direct and regular mutual funds with an average market return of 12.5%, the direct fund could yield a 12% return, while the regular fund may provide an 11% return, thus accumulating a larger corpus when it comes to direct mutual funds.
In direct funds, investors have to take complete control over their investment decisions, keeping track of investments, asset allocation, and portfolio management, which could be time-consuming. An individual also has to be responsible for conducting market research, understanding fund strategies, and making investment decisions independently.
Meanwhile, investing via an intermediary in regular mutual funds comes with additional services, which include maintaining investment records, helping investors with the investment process (documentation), providing tax proofs, and offering personalised services and advice. These added services tend to enhance convenience, making regular mutual funds suitable for investors looking for comprehensive support and assistance.
For instance, a new investor might opt for a regular mutual fund to benefit from a professional financial advisor’s guidance and expertise in navigating the complexities associated with the stock market.
While choosing direct mutual funds could save on fees, it can also mean less access to advice, technology, efficient processes, and a focused financial plan that the intermediary will extend.
The markets regulator, the Securities and Exchange Board of India (SEBI), regulates direct and regular mutual funds and offers a similar level of protection. The distinction relates to the expense ratio and the level of guidance and advice received, which can influence potential returns.
The decision to invest in direct and regular mutual funds holds considerable weight, as it directly impacts the investment journey and financial outcomes for any investor. To make the right choice, it’s important to gain insight into the differences in expense ratios, commissions, and overall returns.
For those who are well-versed in the universe of investments and deeply understand the stock market, regular mutual funds might not offer substantial additional benefits. In these cases, investors can opt for direct mutual funds, where they tend to have full control and potentially higher returns, considering lower expenses.
However, in case an investor is new to the universe of investing, regular mutual funds via financial intermediaries can be an ideal choice. The intermediary plays a crucial role by providing continuous monitoring and ensuring necessary portfolio adjustments that could have a positive impact on investment returns.
Though there might be a nominal convenience fee associated with this service, it’s a relatively insignificant price to pay for the substantial benefits in terms of service quality and improved returns that regular mutual funds could provide in the long run.
Rajiv is an independent editorial consultant for the last decade. Prior to this, he worked as a full-time journalist associated with various prominent print media houses. In his spare time, he loves to paint on canvas.