Mutual funds are financial products that are managed by experts. They give an opportunity to investors who are willing to participate in the financial markets but do not have the time and knowledge to trade daily in the stock market. Managing mutual funds involves certain expenses and these are charged as a percentage on your investments. Mutual funds expenses typically include management fees and operating expenses like registrar and transfer agent fees, audit fees, custodian fees, marketing fees and in case of regular funds distributor fees.
Direct vs Regular funds
Every mutual fund comes in two variants namely, direct and regular. Direct funds have lesser expense ratio as they do not have distributor commission. They are sold directly by the fund house. Regular funds have distributor commission included in their expense ratio as they are sold by distributors for wider reach.
Direct and regular funds are two separate funds but the money is managed in an identical manner. It’s like buying a shirt in a store vs the factory outlet. The only difference between these two is the cost. Technically the shirt serves the same purpose whether it is bought in a factory outlet or a store. It’s only cheaper in a factory outlet. I wish I can say that it’s the same for mutual funds too. The major difference is the expense ratio for direct and regular funds. But they come with their own set of advantages and disadvantages.
One might think they can earn higher returns with lower expense ratio if they pick up direct funds. But what direct mutual funds lack is continuous monitoring. Regular funds are continuously monitored by the advisor. They suggest their clients a portfolio which best suits them and is profitable. They rebalance the portfolio when needed to meet client goals. Whereas in direct funds the investor himself has to do all this. You see the real difference here. Let us look at the advantages of regular funds over direct funds.
Advantages of Regular Funds
One might think they are saving on the expense ratio by investing in direct funds. But what they are missing out is a lot more than just saving around 80-90bps.
Ease and convenience
In regular funds, the advisor himself will shortlist the funds that will best suit a client’s risk appetite and goals. All the client has to do is invest in the funds. The background research will be done by the advisor.
The advisor has in-depth knowledge of the industry and economy. The advisor can guide the client towards a portfolio that best suits him. Under their market expertise the client can invest in funds that give good returns.
Continuous monitoring and reviewing
The advisor doesn’t guide his client towards an investment portfolio. He also continuously monitors the portfolio in terms of the client’s goals and rebalance it if required. This will lead to higher returns than investing just in direct funds.
The advisor also provides value-added services like keeping a track of the client’s investments and facilitate the client to keep track of his/her portfolio.
Don’t these advantages justify the additional expense of 80-90bps?
Well, not really. They suit those investors who have enough knowledge about the market and have the time to review all the mutual funds (around 12,000+ funds) and shortlist the best ones that suit their risk appetite, investment horizon and goals. The investor also needs to continuously monitor their investments and rebalance their portfolio if needed. For the rest of us there are advisors who will provide us all these services at a minimal cost.
The only difference between a direct fund and regular fund is the expense ratio. Their portfolio and investment strategy has no difference. However, the benefits of regular funds out weights that of the direct ones.
Therefore, it’s in the hands of the investor to choose wisely.