Mutual funds ha!
Mutual funds may soon be available to the end customer directly. When you go direct, you avoid the sales costs….that is all. You still pay asset management charges – and as of now we have no clue how much. So lets do a look see…..
The other costs remain the same….now let us see what a 2.8% per annum cost does to your money over a 30 year period. (lets accept that you will remain invested in SOME fund or the other and the charges will be the same).
Well this is what is likely to happen to your fund:
Assumptions: Amount invested Rs. 10,00,000
Period of investment: 31 years
Market return: 15% p.a. CAGR, growth option – so the dividends have not been paid out to you, your only return is the CAP GAINS.
WELL, your money would have grown to Rs. 3,15,70,922. Wow not bad you have created a tidy sum of money, right? yes.
Maybe this could play an important part of your retirement corpus. Now let us look at what the asset management company made for ‘helping’ you to achieve this nice round sum.
Well they made about Rs. 83,56,398. Again not bad, especially if you are the asset management company / distributor combine…it can also be part of somebody’s retirement corpus, right?
Well what would have happened if you had invested in a mutual fund which charged say 0.5% amc? well well, the corpus would have been
Corpus amount: 6,51,85,133
Amc charges paid: 25,58,506.
Is this not slightly better than the previous model?
So if there was such a fund available you should be investing in that fund, right?
Well let us see if we can get a fund house which says ‘anyway it is an index fund so we will charge you a FLAT fee of Rs. 20,000 per annum, immaterial of corpus…then what happens?
Corpus: Rs. 6,61, 24,399
Amc charges: Rs. 620,000 (easy it is not 20,000*31)
Well that is another Rs. 19L saved…hmm not bad is it not?
Will it happen? No. Can it happen? Never.
Why? simply because.
Once upon a time there were companies which needed money to do business. Then there were merchant bankers. Then mutual funds were created. Mutual funds required a regulator. The regulator said all people should be qualified. Then there were trainers, analysts, fund managers, distributors, auditors, trustees,….so the Rs. 83,56,000 that YOU PAY is to be given to all these people…
Sorry, this post is going to hurt tooooooooooooo many people, but as usual, will live with this.
I AM NOT SAYING that everybody should do direct investing…but recently did an exercise for a friend..and realised that for his corpus of about Rs. 20 crores he would have ended up paying about Rs. 2 crores over the past 7-8 years as amc charges and load…he said ‘i could have bought a flat in Ghatkopar’..well chuckle chuckle…
satish
Worst thing is the returns(even capital) is not gauranteed but the fees is…
Balaji
Hi Subra,
Quantum MF(quantumamc dot com) claims to charge lower fees. Can you please help verify? and if so, are their funds investment worth?
Thanks & Regards,
Balaji.
Ramsundar
Hi Subra,
How is the new direct model different from existing direct (deal with the amc directly) model?
Could you please throw some light?
Thanks a lot for ur msgs.
Sanjay
Hello Subra Sir,
You missed one fact though. You did not consider time value of money. The asset management charges of 83,56,398 Rs were released OVER the 31 years and not AFTER 31 years.
Why to calculate in numbers. Why not to calculate in %ages.
AMC has robbed investor of 2.8 * 31 = 86.8 %. People don’t notice it because calculation assumes yearly growth of 15%. It considers only bull run but not the bear run.
For example consider all bull run happens at 31st year. Till 30th year there is no change in portfolio value. It remains at 10L * (0.972 ^ 30) rupees. After 31st year, end user will get value in between 1 Cr and 1.03 Cr. Just 10 fold increments in its assets. while PPF at 8% would have given 1.08 Cr. I know the example I have given is contrived but I wanted to highlight the part that 2.8% is just too much to give.
People compare Mutual fund with benchmark. I wonder why they do not compare it with Debt instrument like PPF which work very well for long term. Unfortunately PPF interest rate is now linked to yield of government bonds. So we may not get 8% interest rate for all these 31 years now onwards.
Fact remains that whoever is advocating Mutual funds with more than 2% of yearly charges is fooling the investors.
Mutual funds are helpful only if your money is consistently growing. If there are 5 or 10 years of bear run then mutual fund suck up money for that time. Imagine your portfolio value is decreasing and AMC is still asking for 2.8% for “managing” your money.
And I think Mutual fund would just manage to beat debt instruments like dynamic bond funds just by 1% in future.
Are you suggesting to go for indexed fund instead, Subra Sir?
Vandhana Karthick
Another excellent article written with comparison from you.. Subraji me too like the same felt but also if we give our Investment plan to somebody they too sometimes fails to give customised attention to us with good profits..I myself lost near about 3L in MF and I dont know what to do??Please suggest me if you could??
vikash
right. But if we retail investor ourselves “manage” money we wont get even 6% return. So 15% with amc charge is *far better*. That is fees for their skill in investing. I dont mind.
Muthu
There is a talk going on in the market that the difference between direct and distributor plan may be 0.5%. Let us assume a 15% annualized returns in the distributor plan over 20 years. The direct would be then say, 15.5%.
After 20 years, Rs.1 lakh invested today becomes 17.85 lakhs at 15.5% and at 15% it would be 16.36 lakhs. The difference is 1.49 lakhs at the value of money after 20 years. Whether to pay this to an advisor or not is an individual decision.
We only calculate how much we would save if we avoid an advisor. We never factor in the amount saved by not doing some thing foolish with our money. A wrong insurance plan can make one poorer by even 10 lakhs over the same period. Nothing comes free and the difference is what you’ve to pay if you see value. If you don’t see any value from your advisor, you are better of doing it yourself.
One never get thanked or rewarded for the pitfall he has avoided. As much you pay some one for what he asks you to do, you also need to understand the value of what he asks you not to do.
If my clients feel the value of my advice and service is not worth the 0.5% per annum, I’m fine with them going direct. There is no point in breaking one’s head about change in clients’ preferences and ever changing regulatory environment.
Milind N
Muthu …Valid Comment.That is why I used to Miss you ! Other side of the coin ,explained Aptly….Keep it up !
Muthu
Thank you Milind. I always enjoy contributing to the comments section of Subramoney.
subra
Milind N
if you buy HUL, does HUL pay YOU money? yes dividends. Does HUL ask you for money? No.
if you buy Hdfc top 200, does H T 200 pay you money? yes 2% dividend. Does H T 200 ask you for money? yes 2.8%.
I rest my case.
Milind N
Subra Sir…Again Valid Point from you. TAKEN.However For a person who understands and can diffrentiate between Gold and Brass this is correct .For a person who feels all that GLITERS ,albit temperorily is GOLD only ….what follows is substantial loss of capital and that erodes his confidance in equity which as we all know is the only vehicle capable of creating wealth over long term by giving real returns over inflation . I know one CA ,who burnt his hand in Harshad era and never touched equity as wealth creating vehicle either direct equity or MF route ,instead investing only in NSCs,PPFs. His age is 45 years.Its so SAD ! Hence for lay man let Prashant or Sankaran takes their fees and give atleast 12 percent returns.So For Respected Subra sir and other qualified ,well trained people who understands the ROPE ,Direct equity is always better and will be ahead interms of wealth creation , agreed , however for lay people who dosent know how to read Balance sheet , MF or at best combination of MF and Direct equity is much better.Atleast it beats Inflation and Helps to create Inflation sustaining corpous.PARTCIPATION in EQUITY IS MUST .Weather direct or MF should depend on everyone understanding of Markets.I rest My Case sir
srk
@Milind N
I agree with your point that ‘participation of equity is more important’.
Though Subra sir is right that direct equity will reward investors better because there is no expense ratio to be paid, but investing in direct equities is only for investors who are knowledgeable about where to invest, when to sell, company profile and other details.
Frankly speaking how many of us have this much ability or time to read about companies and do research on our own.
Most of the investor who come in direct equity buy/sell what there brokers, friends or based on analyst tips tell them rather than there own knowledge and they ultimately burn there hand and run away from equity market swearing never to return.
Out of so many investors only 5%-10% are successful in direct equity for rest of us its better to start with MFs and then one may progress to direct equity as he gains knowledge over time.
Defenitly our returns will be lesser because of the expense charged by AMC but at the end a 12%-15% return is much better than just putting money in Fixed income alone.
subra
if u are good enough to qualify as an Engineer, MBA, CA, Doctor, what makes you a moron while investing? start small and learn…remember it is not impossible, BUT SURELY IT IS NOT EASY, but it is doable. At 2.8% amc it is like asking the fund manager to run a marathon carrying a 15kg weight. None of them, none of them, repeat will be able to beat the index over the next 5-7 years, if the index is well calculated. Sadly sensex and nifty are not 🙂
subra
Muthu your calculation is wrong. 0.5% every year is different…u cannot adjust only 0.5% – you are talking of a larger number. See my article, is the gap just 0.5%….and why the hell cannot there be an absolute charge? and sorry but the %age of value adding distributors: non value adding ones is too damn high.
Muthu
In financial calculator, Casio FC 200V, if you give 0.5% for one year and give the term as 20, it automatically takes care of the compounding of this expense over 20 years. That is how I calculated the above. I kept the return as both 15% and 15.5% annualized and the result was as stated. The returns are assumed after considering other expenses.
I’m not against direct equity. At the same time, it is not for all. CA or Doctor does not happen over night. Like wise, understanding direct stock picking requires lot of learning. If some one has time, inclination and understanding, he can try direct stock picking.
Forget Nifty or Sensex, good funds have beaten their other benchmarks like BSE 100, BSE 200 and BSE 500 as well. Active management has worked so far in India. When the fact scores over the concept (of passive investing), it is better to go with the fact.
2.8% is what maximum allowed. Earlier when it was 2.5%, not every one charged that high. There was 1.8% as well. Also if you take the slab given by SEBI, it is not 2.8% for the whole of assets; still it is a stepped up calculation.
And you can check with the returns of many good funds over the last one decade and since inception. The returns are good, beat the benchmarks and the returns shown are after expense ratio.
Muthu
“Many a man or women who would not expect to be a successful as a circus clown, opera singer, or grocer, without some kind of preparation or talent, nevertheless expects to be successful right off in the stock market- probably the most intricate and difficult game on earth. The reason for this faith in success with out any special qualification is doubtless the most universal belief in luck.”- Fred Kelley
Mira D
Subrabhai, thank you for this eye opener. for very long I have been dutifully putting money directly into 3 MFs, directly and sort of SIP like, but this is it.
Grateful.
Sanjay Singhaniya
Muthu Said:
Forget Nifty or Sensex, good funds have beaten their other benchmarks like BSE 100, BSE 200 and BSE 500 as well. Active management has worked so far in India. When the fact scores over the concept (of passive investing), it is better to go with the fact.
Muthu,
Always remember that while comparing with benchmarks, dividends of benchmark are not considered. Thats why comparison is lop sided. In fact, if companies stop giving dividends, you can see that many funds which beat benchmark regularly will start falling behind benchmark.
Subbu
Subra, I have a basic doubt. Could you please clarify me. Why should one bother about mutual fund fee, if that MF is able to give higher returns. For example, Fund A has 2% expense ratio and 15% returns, Fund B has 2.5% expenses ratio and 16% returns (Assume that same performance will continue in future also), should I invest in fund A or fund B? Here one of my major assumption is reported NAVs calculated for mutual funds are after deducting expenses. Please clarify if this assumption is correct or not. Thanks in advance.