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EXPENSE RATIO IN MUTUAL FUNDS - IMPORTANCE AND ANALYSIS
Mutual funds have become one of the most popular investment options for individual investors. Flexibility to invest in smaller amounts, diversification, safety, transparency, and plans for every financial goal, are some key benefits of investing in mutual funds. Investors are free to choose a plan depending on the risk they are willing to take, the investment term, financial goals and the investable amount, etc. At present, there are different types of mutual funds investment plans providing investors with flexible and hassle-free modes of investments. However, investors must check the expense ratio charged by the AMCs or asset management companies when selecting a mutual fund scheme. Here is more to help you understand the expense ratio in mutual funds in a better way.
Expense Ratio – Importance
The expense ratio of mutual funds is vital to investors as the operating cost of funds and management fees can affect the net profitability. It is crucial because it allows investors to understand the amount they are being charged by investing in a specific fund and how much it can impact their returns. The lower expense ratio means better profits and higher returns on the invested capital. Thus, you need to check the applicable expense ratio before choosing a particular mutual fund for investment.
Components of Expense Ratio
There are various costs involved in the expense ratio of the mutual fund. Thorough assessment and details about the total charges and breakups are shared with the investors to ensure transparency. The total expense ratio of a mutual fund is shared via a statement twice a year, every 6 months, showing the amount subtracted from the investors’ account to meet different costs. A mutual fund’s expense ratio has different types of charges. These include:
- Administrative Costs
This tab is about the maintenance and administrative services related to the fund to ensure smooth operations. Administrative costs include consulting charges, entry and exit charges of the portfolio assets, recordkeeping, transactions, custodian charges, accounting, information e-mails, legal and audit fees, customer support, and registrar/audit expenses.
- Management Fees
Mutual funds have a committed professional team of fund and portfolio managers to ensure smooth functioning and performance. These professionals are responsible for research and proper investment strategies to generate good returns. Thus, this tab of management fees is allocated towards the payment of the professionals in charge of the efficient operation of a mutual fund. The asset management companies pay the management fees to the people for handling the funds perfectly on their behalf.
- 12B-1 Fee
It is an operational cost. A 12B-1 fee in expense ratio in mutual funds goes towards advertising and marketing a mutual fund to boost the asset base. Building a proper asset base requires asset information, which has to be shared among the people. The cost by the new investor investing in funds is also taken under the 12-b fee.
How Does the Expense Ratio Affect Return on Investment?
Expense ratios in mutual funds are generally subtracted from revenue produced before giving it to the investors. A higher expense ratio involves a higher percentage of the returns getting deducted, thus rendering lower returns on investments. As expense ratios affect the annual returns, investors should evaluate the same while selecting a mutual fund plan for investment.
Different funds have diverse expense ratios. For example, expense ratios for index funds are lower as compared to actively managed portfolio funds. Thus, most people look forward to investing in low-cost index funds with the lowest expense ratios.
Expense Ratio Limit by SEBI
The Securities and Exchange Board of India (SEBI) imposes certain limitations on expense ratios charged by an AMC to safeguard the interests of investors. So, all expenses in a mutual fund need to be managed as per the limits set under Regulation 52 of SEBI Mutual Fund Regulations.
Remember, mutual funds with a low expense ratio, but managed by professional managers having excellent market predictions can ensure higher returns. As an investor, before investing in mutual funds or creating a diversified portfolio, you need to understand different types of mutual funds in India, their advantages for investors, investment instruments and more. Also, you should research the company website, and prospects, or consult your financial advisor for information about these expenses.
At Muthoot Finance, we can help you to choose the best mutual funds based on your investment profile. Visit the nearest branch of Muthoot Finance and let our seasoned fund managers guide you to make mutual fund investments profitable in the short and the long term.