Deciding between a direct mutual fund and a regular mutual fund is one of the first dilemmas that new investors in India face. With the mutual fund industry having expanded tremendously in the last decade, this decision can have a significant impact on your investment returns over the long run.
With lower expense ratios, transparency and flexibility, direct mutual funds have emerged as a preferred route for many smart investors in India. But are direct funds right for your specific investment needs? Let’s examine the direct vs regular mutual fund choice more closely so you can make an informed decision.
What are Direct Mutual Funds?
Direct mutual funds, as the name suggests, are funds that you can buy directly from manufacturing companies, like mutual fund companies, without involving a broker or distributor. There are no commission or distribution fees charged, so the expense ratio of direct funds is lower compared to regular funds. The returns from direct funds will be higher due to the lower costs.
What are Regular Mutual Funds?
Regular mutual funds are funds that you buy through a broker or distributor. Since there is a middleman involved, expense ratios are higher due to the commission they earn. The brokerage fee is usually around 1% of the invested amount and it could be higher in the newer funds or small asset management companies. This increases the cost of the fund and therefore reduces returns over time.
If you are trying to find a way to calculate the amount of commission on your mutual funds, you can use our 1 Finance commission calculator.
Key Differences Between Direct and Regular Mutual Fund PlansPurchase Method:
- Direct mutual fund plans can be purchased directly Via the respective mutual fund websites, Mutual fund registrar platforms like MF Central, Mutual Funds Utility (MFU), or other DIY platforms.
- Regular mutual fund plans are typically bought through a broker / Mutual fund distributor platform. This difference in purchase method is important in understanding the other differences between these two types of plans.
Pricing and Expense Ratios:
- Direct plans typically offer lower fees, leading to a higher net asset value (NAV). This is largely due to their lower expense ratios, as they do not incorporate broker commissions.
- In contrast, regular funds generally have higher expense ratios because they include fees for broker commissions. This makes them less cost-effective over the long term compared to direct plans.
- Under equity mutual funds the expense is around 1% and under regular options, it is around 2% to 2.5% varying from schemes. The difference between both is around 1% which cumulates based on the market valuation. This means this 1% extra cost keeps increasing as per your mutual fund growth and keeps accumulating till the time you withdraw it.
- The difference looks very small but accumulates to a big amount over a long period of time.
Returns:
- Direct mutual fund plans often provide higher returns over time compared to regular plans. This advantage is due to the lower expense ratios in direct funds, where a smaller portion of the investment’s return is used for fees, potentially leading to more significant wealth accumulation in the long term.
- Regular mutual fund plans tend to have higher expense ratios because they include broker commissions. This results in a greater portion of the investment’s return being used to cover these fees, which can limit the growth of the investment and potentially lead to lower returns over the long term compared to direct plans.
Many investors have a myth that if they are not doing any transaction there is no cost. But your extra cost is incurred even if you are staying invested.
Why Shall You Opt for Direct Funds?
Direct mutual funds have lower expense ratios compared to regular mutual funds, resulting in higher returns and net asset value (NAV). This is because direct funds do not charge commission fees to distributors.
In regular mutual funds, a portion of the expense ratio goes towards paying commissions to mutual fund distributors. This increases the expense ratio and lowers returns. The commission percentage varies from scheme to scheme and broker to broker, hence there are high chance that your broker may be suggesting only high commission-based funds. Some distributors also churn investors’ portfolios in newer schemes in 2 to 3 years to earn higher commissions. With direct funds, there are no commissions, so more of your investment goes towards the fund assets rather than middlemen fees.
While regular (commission-based) funds offer convenience through distributors as they process transactions on your behalf, direct funds put you fully in control as they provide you with unbiased detailed information. You must do your research, or opt for SEBI-registered advisors who charge you a certain fee but provide you with suitable quality direct mutual funds as they don’t earn any commission from manufacturers, but this also means you have complete transparency into your investments. Direct funds empower investors to make informed decisions themselves.
Overall, the lower costs, higher returns, avoidance of commissions, and greater control make direct funds advantageous for investors who want to be more hands-on with their mutual fund portfolio. All you need to do is make informed decisions.
For example: if you are doing a 10,000 monthly SIP from the last 10 years in the large-cap fund the average return of 10% approximate commission you would have paid is more than 100000. This amount could have been saved by investing in a direct option.
Who Should Consider Regular Funds?
Regular funds are particularly suitable for investors who do not know about investing in mutual funds. Investing through brokers can be beneficial for these individuals, as it provides access to detailed information and various research reports on mutual funds. This approach offers a supportive environment for making informed investment decisions, leveraging the expertise and insights provided by seasoned professionals in the field
Final Verdict:
When it comes to choosing between direct and regular mutual funds, the decision hinges on your investment style, knowledge, and preferences. Here’s a breakdown of the key factors to consider:
Direct Mutual Funds:
- Lower expense ratios translate to higher returns over time.
- Empowerment and control over your investment decisions.
- Transparency and no hidden costs or commissions.
- Ideal for investors willing to conduct their research or seek guidance from SEBI-registered advisors to get unbiased suitable advice as per your requirements.
Regular Mutual Funds:
- Convenience through mutual fund distributors as they help you to transact your funds.
- Suitable for investors who lack access to qualified advisors.
Ultimately, if you prioritize lower costs, higher returns, and full control over your investments, direct mutual funds are the way to go. However, you can also prefer large-cap index funds for long-term investments. if you value expert guidance and convenience, regular mutual funds may be more suitable for your needs.
