Direct vs Regular Mutual Funds

Direct mutual fund or direct plans of mutual funds allows investors to purchase fund units directly from the fund house or through an intermediary that does not charge a commission. Due to the elimination of distributor commissions, direct plans have a lower expense ratio and potentially offer higher net returns as compared to regular plans of the same fund. Moreover, there are no advisory charges, so investors have to do their own research when choosing funds.

Direct plans are ideal for investors who have a clear understanding of capital markets and are willing to make their own investment choices. Such investors would want to invest in direct plans of mutual fund to reduce the costs associated with investing in order to potentially maximise long-term returns. However, mutual funds being market-linked investments do not offer assured returns to investors so choosing the right fund to invest in is essential.

A regular mutual fund or regular plans of mutual fund refers to fund units that are bought by investors via intermediaries like distributors, financial advisors, banks, brokers, etc. These intermediaries typically levy a commission which is included as part of the the expense ratio of the regular plan of fund and reduces the potential returns by a small amount when compared to direct plans. However, by paying this commission, investors can often get access to professional analysis, portfolio management services, fund recommendations, etc.

Regular plans are thus often considered suitable for investors who require expert guidance or do not have time to study markets and track their investments by themselves. So in lieu of the extra charge, these investors get the benefit of assistance for making suitable investment decisions.

The following table gives an overview of the main differences between direct vs regular mutual funds so that investors can make an educated choice:

As you can see from above, the differences between direct and regular plans is quite subtle. So, the decision of choosing between direct and regular mutual fund for the most part on whether you are looking to save on the cost of investing or receive professional guidance.

The lower expense ratio of direct plans results from elimination of commission payouts, which means that more money is available for investment. While the difference in expense ratio of direct plans vs regular plans tends to be less than 1% annually, even this small cost difference can lead to the significantly higher creation of wealth over the long term. Investors opting for direct plans gain better capital efficiency, and therefore, they are the first choice for cost-saving investors. While a lower expense ratio can lead to higher returns over time, the actual returns of the fund are impacted by market conditions and the fund’s performance.

To understand this better, let’s compare the potential returns of direct and regular plans with a simple example. Suppose you invest Rs. 1 lakh for 20 years in the regular plan and receive a CAGR of 12% on your investment. In this case, your investment would grow to Rs. 9.65 lakh in 20 years. Now suppose the same Rs. 1 lakh is invested in the direct plan of the same fund that offers a CAGR of 12.5% on your investment. In this case the corpus created would be Rs. 10.55 lakh at the end of the 20 years. As you can see, by opting for the direct plan that offers only a 0.5% higher return compared to the regular plan you would end up with about Rs. 1 lakh more over the investment tenure.

The Net Asset Value (NAV) of a direct mutual fund will generally be greater than that of a regular mutual fund due to the lack of distributor charges deducted. But NAV itself is not affected directly by the expense ratio on a day-to-day basis since it is based on the market value of the assets held in the mutual fund portfolio.

Since direct plans usually have a lower expense ratio, their net returns are higher than regular plans. As these returns add-up over time, the NAV of direct plans increases faster than regular plans leading to a higher NAV compared to regular plans.

Direct plans of mutual funds have the potential to provide higher net returns compared to regular mutual funds because of the lack of distributor commissions. The reduced expense ratio implies that more money is available for the fund to invest in, so that compounding has a better chance to act effectively.

Over time, this will make a difference in the wealth created by the plan. Investors who feel at ease with handling their own investments can reap this cost-saving benefit and increase profits. However, it is important to note that returns generated by a fund are not guaranteed and depend on various factors ranging from market conditions to fund manager’s skill in managing assets.

In the case of regular mutual funds, intermediaries can provide a number of services such as investment advice, checking market trends, and assisting investors in choosing funds according to their capacity for risk and investment objectives.

This expert advice is not free, as advisors charge a commission, which is embedded in the expense ratio and, as a result, lowers returns marginally. Although this extra cost might appear minimal, it adds up with time. Even then, regular plans can be more suitable for investors who want to make professional-driven investment decisions for their portfolios.

As the name suggests, medium or moderate risk investments comprise investment plans that serve as diversified or balanced investments. Investment plans with a moderate risk profile provide not only the potential for growth but also willingness to accept a certain level of market volatility. Most medium risk investment plans help diversify your investment portfolio through a mix of equity and debt instruments to generate stable returns without taking any huge risks. Examples of medium risk investment plans include: