Know why Direct Schemes of Mutual Funds have higher NAV than Regular Schemes
It is a fact that direct plans of mutual funds are cheaper than regular plans. But when you actually want to invest in a direct plan, you would notice that the NAV of direct plans is higher than the regular plan NAV. Now you might question how is it even possible or have you missed something in between.
To resolve your query, let’s first understand what is NAV & how it works followed by a few examples to analyse why direct fund NAV is higher than regular fund NAV.
What is a Net Asset Value (NAV) and how does it work?
The NAV represents the market value of one unit of a mutual fund scheme. It is the price that you pay when you buy units of a mutual fund scheme. NAV is calculated as follows:
NAV = (Total Assets - Liabilities) / (Number of units outstanding)
The AMC (Asset Management Company) calculates the NAV at the end of closing of the market everyday. For more insights on NAV, read 10 Terms Every Smart Investor Must Know.
Why do direct plans have a higher NAV than regular plans?
The AMC has to incur expenses to manage the mutual fund schemes wherein you have invested your money. All these costs put together form part of the expense ratio of the scheme. The NAV of the scheme is reported after deducting these expenses.
It means that when higher expenses are deducted, it will reduce the NAV of the scheme. The same thing happens in case of regular plans.
In the case of regular plans, there is a bank or a distributor between you and the AMC. The distributor or bank charges a commission to provide these services which gets added to the expense ratio of a regular plan. This, in turn, makes the expense ratio of a regular plan higher than that of a direct plan. As a result, the regular plan of a mutual fund scheme will report a lower NAV after considering all the expenses.
On the other hand, direct plans are the ones wherein you invest in mutual funds directly with the AMC. As there are no commissions involved, so the expense ratio of direct plans is lower than regular plans. Because of this reason, the direct plan of a mutual fund scheme would report a higher NAV after considering all the expenses.
The following table provides a glimpse of how direct plans are different from regular plan of mutual funds.
So, are direct plans better than regular plans?
By now it must be clear that direct plans have a higher NAV than regular plans. But you must be thinking that higher NAV would mean lesser number of units in your kitty which may result in lower return on investment.
However, one should not judge the performance of a fund based on the number of units bought as per the NAV.
In fact, while comparing two schemes, you should compare on the basis of the risks and returns generated. Since the direct plan and the regular plan of a scheme are at the same level of risk, comparing the two based on the returns generated would be a better approach.
Let’s understand this with the help of an example.
Imagine that you invested Rs 10 lakh each in the direct plan and regular plan of a mutual fund scheme. Assuming the returns generated by the direct plan and the regular plan are 11% and 10% respectively, the following table shows the accumulation of wealth over 3, 5, 10 and 20 year period respectively.
The Final Takeaway
Investing in mutual funds should be done after careful consideration of your own needs, risk tolerance and investment horizon. Analyzing multiple funds to choose the right fund can become difficult at times.
Avoid these inconveniences and explore our ‘Investment Packs’ for all your investment requirements. These well-diversified packs consist of direct plans which results in up to 1% higher returns than regular plans. Moreover, these packs are designed to suit risk profiles across investor categories to meet your investment goals. To know your risk profile, you can take a free Risk Assessment on our app.
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Disclaimer: Mutual Fund investments are subject to market risks, read all scheme related documents carefully. Past performance is not an indicator of future returns.
