Off late, the investment choice of investors has turned to Mutual funds. The abbreviation SIP lingers in the minds of all existing and new investors. It is good to see the Indian public’s growing interest in mutual funds investment. As a result, the mutual funds industry is witnessing a phenomenal growth. According to a report by ICRA, the total assets under management AUM of all mutual fund houses stands at Rs.22.20 lakh crore as on February 2018. It has grown from 17.89 lakh crore corresponding previous year. New SIP registration in FT 2018 increased 92% to 2.33 crore according to AMFI data.
Given this growth in assets managed by mutual fund houses, it is vital to know, how mutual funds investment has rewarded investors. In the past 5 years, in line with the stock market boom, many mutual funds have been outperforming in terms of absolute returns. However, investors will gain more when a mutual fund scheme is selected based on relative return. One such approach is comparing the total expense ratio of the scheme with its peer funds.
Total Expense Ratio (TER) is a fund management charge collected from investors. This includes commission paid to distributors or agents. These expenses are charged as a percentage of the average asset under management of a particular mutual fund scheme. The net asset value of the fund is net of this charge. Mutual fund schemes under “Retail” or “Regular” category includes commission paid to distributors and under “Direct” category, it does not include commission paid to distributors as the investment is made directly by the investors without any intermediary.
Since, the fund management charge is calculated as a percentage of average assets under management of a particular mutual fund scheme, the larger the fund size, lower the expense ratio should be. But the question arises whether the economies of scale is passed on to the investors? On comparing the average expense of direct plans and regular plans during 2014 and 2018, we observed that the average expense of direct plans has reduced by 0.56% in four years but the decrease in regular plans expense was only 0.25%, clearly indicating that the retail investors did not really benefit from the economies of scale.
Comparison between schemes in the same category – ELSS
|Scheme||Plan||NAV||Expense Ratio||1 year returns|
|Axis Long Term Equity Fund||Regular||44.89||2.26%||17.98|
|Reliance Tax Saver||Regular||56.56||1.98%||-6.08|
|HDFC Tax Saver||Regular||523.23||2.14%||4.77|
From the above comparison, we could observe that the expense ratio of Direct Funds are low and ultimately NAV and returns are higher in case of Direct Funds than in Regular funds.
The gap between the expense of Direct Mutual funds and Regular funds are expanding. The difference is the commission paid to distributors who are offered high incentives to procure equity funds. Higher incentives will lead to mis-selling of equity funds and frequent switching of funds. But, however, fund houses are under more pressure to perform and hence fund management expense is expected fall. Further, with the growing competition in the mutual fund industry and SEBI’s intervention in safeguarding investors interest, the charges are expected to come down. But, the question “whether the benefits of huge scale of operations by fund houses will be passed on to investors?” still remains.
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