Expert advice

Jan 29, 2014,19.46 IST

Are direct mutual fund plans a better option?

Gaurav Roy
Bigdecisions.in

In August-September 2012, SEBI regulated that AMCs create separate direct plans (via this circular) for each scheme from Jan 2013 onwards, while permitting a higher total expense ratio (TER) for funds sold through distributors (which are referred to as regular plans). Industry was abuzz with conjecture on how investors would respond, what distributors would do to maintain their payouts and whether it was really worth the trouble for the retail investor to make a switch.
 
A year down the line, we see a clear trend emerging. The Direct Plans for all the MF schemes have shown better performance than their regular counterparts as reflected in the diverging NAVs of regular plans and their direct counterparts. 


 

 

 

 

 

 

We selected some leaders and laggards from Value Research Online (http://www.valueresearchonline.com) to make this assessment and eliminate the possibility that relative performance differences between regular and direct plans would be materially affected by their fund performance.
 
Further, with the reduction in securities transaction tax (STT) on equity mutual funds and exchange traded funds from 0.25% to 0.001% from 1-Jun-2013, SEBI has drastically reduced switching costs for the MF investor.
 
A year later it is indeed a good time to evaluate how the numbers stack up when an investor switches his fund to the direct plan within the same mutual fund scheme. 

The following illustration demonstrates the benefit of making the switch as a lump sum.


 
 
 

 

 

 

 

 

 

 

 

 

 

The beneficial economics of switching to a direct plan is clearly demonstrated in the higher returns resulting from lower expenses.
 
A similar trend is seen for investors who have opted for the SIP route. An investor who started and SIPS in a Direct Plan is clearly better off with a higher IRR as shown in the info graphic below.


 
 
 

 

 

 

 

 

 

 

 

 

 

While the difference in absolute returns seems insignificant when viewed over one year, this difference when sustained over 10, 12 or 15 years, makes a significant difference to the end corpus (typically more than 6% over 15 years).
 
The table below illustrates the difference in the end corpus amount for a monthly SIP of ₹ 10,000 per month over 10 years, 12 years and 15 years. This is for a Direct Plan which returns 10.17% per annum versus a Regular plan which returns 9.58% (a difference of 59 basis points). Both these plans belong to the same scheme.
 

Time Frame

Direct Plan

Regular Plan

Benefit over Regular Plan

10 years

₹ 20.33 lakhs

₹ 19.70 lakhs

 

12 years

₹ 24.68 lakhs

₹ 23.66 lakhs

 

15 years

₹ 33.01 lakhs

₹ 31.14 lakhs

 


 
The impact is larger in case of lump sum investments for the same period (as above) and is shown in the following table.

Time Frame

Direct Plan

Regular Plan

Benefit over Regular Plan

10 years

₹ 2.64 lakhs

 ₹ 2.50 lakhs

 

12 years

₹ 3.20 lakhs

 ₹ 3.00 lakhs

 

15 years

₹ 4.28 lakhs

 ₹ 3.95 lakhs

 

 
What is surprising is that despite the clear edge that direct plans have over regular plans (irrespective of fund performance), retail investors have been loath to switch to direct plans, despite a drastic reduction in STT which almost eliminates the switching cost.


 
 

 

 

 

 

 

 

Source: http://www.thehindubusinessline.com/markets/direct-plans-of-mutual-funds-not-a-hit-with-retail-investors/article5309902.ece
 
Investors need to act and make that switch if they really wish to benefit over the long term. If you are ready to go direct to an online retailer and buy your mobile cheaper, why not your fund?

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