As per the directions of the Securities and Exchange Board of India (SEBI), a mutual fund offered by an asset management company (AMC) comes in two variants and they are regular funds and direct funds.
1.What are direct funds?
Direct funds are those mutual fund schemes that are directly offered by the fund house or AMC. The names of these funds are prefixed by the word ‘direct’. There is no involvement of a third party, distributor, or agent. The investors directly deal with the AMC offering the fund. Since there is no involvement of a third party, there are no commissions or brokerage charges involved in these transactions. Hence, the expense ratio of direct plans is comparatively lower than that of regular funds.
2.Features of direct funds
The following are the salient features of direct funds:
- Investors don’t depend on a third party to make investments.
- You can invest in direct funds, both online and offline.
- As there is no commission to be paid, the fund house will not impose the distributor fee and hence, keeping the expense ratio on the lower side.
- Transaction charges are not levied.
- The word ‘direct’ denotes the direct funds.
3. Best direct fund
The best direct mutual fund would have the following characteristics:
- Has offered good returns over a long period.
- Is often not affected much by the market fluctuations.
- The expense ratio is lower when compared to peer funds.
- Offers diversification of the portfolio.
- The fund manager has an excellent track record.
4.What are regular funds?
Regular funds are those mutual fund schemes that are sold through agents and distributors. Since investors don’t deal directly with the fund house, there are commissions or brokerage charges involved in regular funds. Investors don’t pay the commission directly to the agent. Instead, the fund house collects it through the expense ratio and pays the agent or distributor. Therefore, the expense ratio of regular funds is slightly higher than that of direct funds.
5. Differences between a regular plan and direct plan in mutual funds
The asset allocation and fund manager(s) would be the same for regular and direct mutual funds offered by a fund house. The only way these funds differ is by the commissions or brokerages.
The following table shows the major differences between regular and direct funds:
6.Advantages of investing in direct funds
Following are the significant benefits of investing in direct funds:
- Low Expense Ratio: Since there is no third party between you and the AMC, the expense ratio of these funds would be relatively lower than that of the regular funds. In regular MFs, the AMCs pay the agents a commission and recover the same through the expense ratio.
- Higher NAV: The Net Asset Value (NAV) of a mutual fund is calculated by dividing the overall value of the total assets in the fund’s portfolio by the number of outstanding units. Since there are no brokerage charges, the NAV of these funds would be relatively higher than that of the regular funds.
- High Returns: As there is no brokerage in the case of direct funds, the expense ratio of direct funds would be comparatively lower than that of regular funds. The difference in the returns between the regular and direct funds might look negligible, but it would be massive if you stay invested for a long-term. Here’s an example:Let’s assume that you invest Rs 12,000 a month in SIP for eight years in both regular and direct plans offered by an AMC. Let’s consider that the returns provided by the direct and regular funds are 11% and 10% respectively. In the case of regular funds, the AMC pays a brokerage of 1% to the third party. The following table depicts the corpus accumulated at the time you redeem your units:
|Monthly SIP amount
|Amount accumulated at the time of redemption
||Rs 19.19 lakh
||Rs 18.34 lakh
||Rs 0.85 lakh
- No Conflict of Interest: As you directly deal with the fund house, you alleviate the risk of being misled by a third party. An agent or a distributor may make you invest in particular mutual fund schemes for their interest. Hence, opting to invest in direct funds will avoid the conflict of interest scenario.