Direct mutual funds and regular mutual funds are variations of the same mutual fund scheme. However, direct schemes are known to generate higher returns than regular schemes.
The difference in returns has made direct funds a hot favourite among amateur investors. But the devil lies in the details, as we’ll see through the course of this blog.
Direct funds have a marginally lower expense ratio than regular funds. That’s because AMCs don’t have to pay a commission fee to third party distributors.
The commission fee is added to the expense ratio in regular funds that bloats the expense ratio. Since the expense ratio is low for direct funds, the NAV tends to be higher than regular funds.
Everything apart from the expense ratio and NAV of a direct fund mirrors its regular scheme variant including the fund management team and portfolio.
If the mutual fund’s value grows, so will the returns generated by both the direct and regular variations of the scheme. However, direct funds will generate slightly better returns because of the lower expense ratio.
This doesn't necessarily mean buying direct equity funds is a better idea. There is the question of picking funds and when buying direct funds, you won't get any advisory on which fund is right for your goals. You can consult a Cube Wealth Coach or download the Cube Wealth App.
After all, you cannot time the market. You may be lucky once in a while when selecting direct funds. But do you really want to leave this to luck?
Either way, let’s compare the returns generated by direct and regular mutual funds. We’ll use the direct and regular variations of the same mutual funds to keep things simple.
We’ll use HDFC Flexi Cap Fund for the sake of comparison. The regular scheme was introduced in 1995 and the direct scheme in 2013.
For debt funds, we’ll compare the returns and expense ratio of ICICI Prudential Corporate Bond Fund’s direct and regular schemes. The regular scheme was introduced in 2009 and the direct scheme in 2013.
Edelweiss Greater China Equity Off-shore Fund is a Fund of Fund scheme that was introduced in 2009. The direct variation was introduced in 2013.
Fun fact: International funds are taxed like debt funds even though they invest in equity (stocks).
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You must be wondering how the mutual funds used above were selected. They are handpicked by Cube’s mutual fund advisor Wealth First who’ve been outperforming the market for the past decade.
Investors who buy direct funds do not have the luxury of wealth advisory. They’ll have to pick mutual funds on their own. This can be a daunting task, broadly speaking, because of two reasons:
Furthermore, the returns generated by direct funds are only slightly better than regular funds in most instances. And once you buy a direct fund, you must also monitor the market to know when to sell it.
Thus, you must weigh these arguments to know if the extra returns are worth it:
Ans. The expense ratio is the annual fee that a mutual fund charges its investors. A lower expense ratio in direct funds typically results in higher returns compared to regular funds, as investors pay fewer fees.
Ans. Investing in direct mutual funds can offer higher returns due to lower expense ratios. Additionally, investors often have more control over their investments and can make informed decisions without the influence of intermediaries.
Ans. One of the potential downsides is that investors might need to handle their investments independently, as they don't have the guidance of financial intermediaries that regular funds offer. This could be a disadvantage for those who prefer professional advice.
Ans. It's usually possible to switch from regular to direct mutual funds within the same fund house. The process typically involves submitting a request to the fund house and may have tax implications, so it's advisable to consult with a financial advisor.
The choice between direct and regular mutual funds plays a significant role in an investor's overall returns. In comparing the returns of these two types of funds, it becomes evident that direct mutual funds tend to offer higher returns due to their lower expense ratios. You can consult a Cube Wealth Coach or download the Cube Wealth App.
Direct mutual funds empower investors to take more control over their investments and reduce the impact of fees on their returns. However, this independence also comes with the responsibility of making informed investment decisions.
Watch this video to know why you shouldn’t pick mutual funds on your own
Note: All facts & figures are correct as of 06-08-2021 and have been obtained from publicly available sources on the internet.
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