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Personal Finance - Direct plans will benefit over the long term

09 Feb 2015

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As the difference is 5-75 bps, there is money to be made. However, take this option only if confident of selecting the right scheme; first-time investors are better off with a distributor It’s a bit surprising when a financial advisor confesses he uses another advisor to invest in mutual funds (MFs). After all, he does know the subject well enough to take his own decisions and is advising clients as well.

Yet, Vinod Jain, a financial advisor, says he prefers using a peer because he does not want to get too emotionally involved with his own investment. His advisor does all the paperwork and helps him select the right scheme, besides overseeing his tax liabilities. "If I don’t pay advance taxes on time, the penalty levied by the income tax (I-T) department will be more than what I would save by going for a direct plan," says Jain.

He was also probably among those who feared a large-scale exodus to direct plans when these were introduced in January 2013. Two years later, these fears have not been completely unfounded but it’s mostly the institutional entities such as banks, insurance firms and companies that have made the switch, say those in the sector.

A third of the overall average of assets under management (AUM) of the MF sector at the end of last year was in direct plans, according to data from CRISIL Research. This seems a large number but only about 6.5 per cent of the sector’s equity AUM is in direct plans. Also, only an estimated eight to nine per cent of direct investors in equity schemes belong to the retail or high net worth individual (HNI) category. The figure is 14 per cent for debt schemes, where companies are the primary investors. (DIRECT BENEFIT: SAVINGS ON INVESTMENT OF Rs 1 LAKH)

What & why

Direct plans allow investors to bypass distributors and save on commission. They also have a higher net asset value (NAV) than the regular plan, as the former’s expense ratio is lower. Investors can save roughly about 75 basis points (bps) in direct equity plans vis-a-vis regular equity plans. For debt categories, the savings can be five to 10 bps for liquid funds, 25-30 bps for short-term bond funds and 50-60 bps for long-term debt funds. What’s more, the Securities and Exchange Board of India has been nudging fund houses to pass on the full commission benefit to investors. This means the gap between direct and regular plans will widen. Exactly how much do investors gain? Had they switched to direct plans in large equity schemes two years before, they would have been richer by about Rs 2,000 on an investment of Rs 1 lakh, shows data collated from Value Research. Investors in large long-duration bond funds would have made about Rs 1,500 more; those in short-term bond funds would have added Rs 1,300.

These gains look small in absolute terms but will balloon to a large number over the long term as the compounding effect kicks in. For instance, one can gain roughly Rs 15,000 on an equity investment of Rs 1 lakh over a 10-year period, assuming the investment grows at 15 per cent annually. "Investors have not given direct investment a thought primarily because they have a short-term horizon of 24 or 36 months. Nobody has the mindset of staying invested for 10 years, so they haven’t bothered to calculate the incremental gains that can accrue over this period by going direct," say Manoj Nagpal, chief executive officer (CEO), Outlook Asia Capital.

"Direct plans are meant for the evolved investor. If you understand how to invest and select the right scheme, there is no reason why you should incur additional cost by going through an advisor," says Dhirendra Kumar, CEO, Value Research.

Issues

Investors need to ensure they do not distort their asset allocation or pick the wrong scheme to save 50-100 bps. An MF is not a low-involvement product like a fixed deposit and investors need to track performance over various tenures, understand the fund management style, look at expenses and the risks involved before selecting a scheme, say experts.

"There is a choice of over 400 equity schemes and many more debt schemes. Plus, you have different types or categories of schemes to choose from. If a first-time investor, it’s better to go through an advisor rather than risk losing your capital by selecting a wrong scheme," says Sameer Hassija, senior research analyst, Morningstar India. Experts believe it is better to stick to an advisor if you already have a good experience with him. "Don’t be penny-wise and pound-foolish. More than the savings, it is important to have someone guide to you buy the right scheme," says Supreet Bhan, executive director and head of retail sales, JPMorgan AMC. If you are not a first-time investor, yet not fully clued into the intricacies of MF investment, you can partly invest direct and partly through a distributor/advisor. Go direct only if confident of picking the right scheme. Bhan believes investors typically buy schemes based on one-year performance, particularly when times are good.

"This can be a wrong decision as one-year performance might not be repeated," he says. "Investors need hand-holding, particularly in times when markets go through a rough phase, such as the one seen between 2008 and 2013. This can far outweigh the benefits gained through saving 75 basis points," says Jain. It might be a good idea to go direct in specific categories, where the performance does not vary much across schemes, say experts. For instance, one can go direct in liquid funds and index funds. However, an advisor might be needed if picking a long-duration bond fund or investing in a mid-cap fund, since these require a deeper understanding of market dynamics.

"You can go direct in a retirement plan as the holding period will be 15-20 years and gains over regular plans can be significant," says Nagpal. So far, there are only three such plans in the market but more are expected in the coming months. An option is to avail the services of an advisor at a fee but use the direct option while investing. The flip side to this approach is that the advisor will not get access to investment details of the client, which will prevent him from actively tracking the latter’s portfolio. The client will have to collate this data himself and provide it to the advisor. Those in the sector believe going ’direct’ is still a hassle for most.

"The ease of transaction is still not there for direct investors. Even if you go online, you have to visit websites of different AMCs, login separately and remember different passwords. Till the ease of transaction happens, only select, savvy investors will shift to direct," said Nagpal. Ahead In the coming months, the Association of Mutual Funds in India’s long-awaited centralised distribution platform, MF Utility, might help address this. The platform will do away with the need of separate login IDs and passwords for different fund houses.

Single-cheque payments for multiple transactions will also be possible. This ease of transaction could persuade more investors to go direct. Some estimate the percentage of direct retail/HNI investors in equity schemes will increase to 15 per cent from the current eight to nine per cent, within a year of the MF Utility’s launch. Advisors like Jain are not convinced: "MFs are a ’push’ product. Only because I say you can save 70-75 bps by going direct does not mean you will start investing in a particular fund. Someone has to meet the investor and persuade him to buy the right fund."

Source: Business Standard BACK

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