When choosing a mutual fund, you need to consider factors like risk, performance, fund portfolio, and expense ratio.
The Total Expense Ratio, or TER, is one of the most important factors to know about before investing in a mutual fund.
Let’s see why you need to study it, what are expense ratios, and the best mutual funds with low expense ratios for you to consider.
What is the Expense ratio?
Mutual Funds incur certain operating and expenses for managing funds like – sales & advertising expenses, transaction costs, investment management fees, registrar fees, etc.
The expense ratio includes all such expenses incurred by the Mutual funds. It is adjusted to the fund’s Net Asset Value (NAV). It is adjusted daily and is a cost to the investor.
How does the Expense ratio make a difference?
Let’s consider the actual difference expense ratios can have in the wealth created.
Here, we have taken two types of PGIM India Midcap Opportunities Fund – regular and direct. The time period taken is ten years.
| Scheme | SIP | Annualized Returns | Expense ratio | Final corpus (Rs.) |
| Direct | 10,000 | 21.01% | 0.40% | 1,26,35,714 |
| Regular | 10,000 | 18.96% | 1.95% | 1,01,62,185 |
By investing in a regular fund, you incur an expense ratio of 1.95% compared to 0.40% in the direct mode. This expense ratio has cost the investor an additional Rs. 24,73,529.
This means that by investing in a regular fund, you lose almost 24 lakh rupees! The gap increases significantly when this is compounded for larger SIP values and for longer time horizons.
With lower expense ratios, the wealth creation in a portfolio increases to a great extent.
Mutual Funds with a low expense ratio
| Scheme name | Category | Expense Ratio | Returns (3yrs) |
| Mirae Asset Tax Saver Fund | ELSS | 0.50% | 19.91% |
| PGIM India Mid Cap Opportunities Fund | Mid Cap | 0.40% | 38.48% |
| UTI Nifty 50 Index Fund | Index | 0.20% | 14.57% |
| Canara Robeco Small Cap Fund | Small Cap | 0.39% | 39.01% |
| HDFC Index Nifty 50 Fund | Index | 0.40% | 13.80% |
How to reduce the Expense ratio of your funds?
- Choose a fund with a low expense ratio in respective asset classes. But at the same time, remember not to compromise on the return aspect of the fund because if the fund has low-risk adjusted returns, then having a low expense ratio will not benefit your portfolio.
- Adopting a passive approach to investing significantly reduces the expense ratio. For example, instead of investing in a blue chip or a large-cap mutual fund, you can choose a Nifty 50 Index Fund, which comprises the same large-cap companies’ stock but has a lower expense ratio than the former.
- Last but not least, always choose Direct Funds instead of Regular ones. This way, you don’t have to pay an additional commission to distributors.
Should expense ratio be a deciding factor when choosing your mutual funds?
Definitely not! The major factors you should consider while choosing a mutual fund are the risk-adjusted returns, the performance, the portfolio composition, the standard deviation, the fund managers’ performance and experience, and whether or not it fits your investment objective.
The expense ratio should only be one of the above factors to compare two or more mutual funds in the same category offering similar returns but not a deciding factor.
For instance, funds may generate better returns than the category average but with a slightly higher expense ratio. You may consider the power of compounding with the returns generated in such cases.
Conclusion
Never choose a fund solely based on the expense ratio. Always perform a detailed fundamental analysis to ensure you choose the right fund for you and your portfolio.
This will make your investment journey smooth. If you find it challenging to choose a mutual fund that’s right for you, take the help of an investment advisor who will guide you through the entire process.
