6 things that will give you a million, done correctly
Intelligent Investor Series
Hopefully, you might have made great returns since the 2020 tide (hopefully have not missed the rising tide of the markets, but even if you have, there’s good news!). This gives you the confidence to make more investments, and returns look almost easy to achieve. However, these are precisely the moments in the market where one needs to be careful — as alpha is never easy to make for the long term. There are many online investment platforms that encourage you to trade or buy direct funds — looks neat, clean and easy to do right? So why would anyone not invest in direct funds?
To understand this, let’s look at the structure of a mutual fund. As you can see from the table below, everything remains the same, but the expense ratios (fees the fund charges from you).
Regular vs Direct Mutual Fund Plan
| Direct Plan (via DIY Investor) | Regular Plan ( Via Broker) |
Expense ratio | Lower | Higher |
Return on Investment | Higher | Lower |
Reason for Difference | No commissions are involved since you purchase the units directly from the AMC (Kotak, SBI, etc.) | Commission paid by AMC to your broker (if any) in the form of distribution expense/transaction fee. |
Interestingly, we meet many of these investors, who, having tried to invest on their own and learned the hard way, want professional help to be able to do it better, with lesser risk and a higher alpha performance. So the question we asked ourselves is if Direct is really good, then why would anyone need help?
We delved deeper into why these investors chose to speak to our research team in spite of having great tools (including our app) to invest in. Turns out, the comparison is not quite apples to apples, because it misses out on your investment journey and its impact.
It’s not the ‘same’ fund you are likely to invest in
Imagine you’ve invested in a Direct plan (Sundaram Small Cap-DIY research). However, you have a good advisor who, on the basis of fundamentals, risk, consistency and market cycles advises you to invest in the SBI Small Cap Fund based. Here’s how the 5-year returns for both these schemes look like
As you can see, if you had invested Rs 1L back in each of the 2 funds, 5 years back, here’s what the value would be as of 31st August 2021: SBI Small Cap (Regular): Rs 2,80,000 | Sundaram Small Cap (Direct): Rs 1,85,000 | Alpha Generated: Rs 93,000. Quite obvious then that you would rather make 2.8Lac instead of 1.85 Lac on your investments.
That’s 93% additional returns generated over the last 5 years (18% additional delivered annually) when you opt for a quality fund like SBI Smallcap via the regular plan against a DIY strategy like Sundaram Smallcap. Over 10 years, this difference grows to 30%+ p.a and even more when considering additional quality funds for your overall portfolio.
2. Performance in charts, unfortunately, doesn’t always translate to real performance
The returns on reports might give you hope but they don’t say anything about the qualitative aspects of the funds. Limiting your fund choice criteria to performance reports is myopic and will make you lose your vision for the future.
Moreover, past performance does not guarantee future performance. If this were true, then everyone would be a millionaire.
3. The Art of Rebalancing
How does one arrive at a stay/withdraw/rebalance decision? Research matters to get you a higher return. Most of your investment strategy revolves around rebalancing, and so the real questions like which funds to select and when to rebalance, are difficult to answer for a lone individual.
Superiority comes with the quality of fund which, ultimately, comes with the choice of advisor. Here are some tips on how to choose an investment manager?
4. So then should you invest in regular funds?
We’re not at all saying that direct plans are bad, in fact, it saves you on expenses up to 1% usually between 30–50 bps and this could make your investments grow faster over 10 years.
The problem here is most distributors do not have the capabilities for institutional quality research and therefore do not do justice to the selection process, nor are they capable of generating alpha. There is also the problem of mis-selling and the distributor chasing commissions.
5. What should you do?
Simply, look for the value that you are getting. Some of these questions may help you answer your supposed reservations towards professionals:
Is there a research process and team the company has/follows?
Can they transparently explain investment decisions to you?
How has their past performance been? Has it been published anywhere?
What do their current customers have to say?
This should help you work with the right investment professional to get the right returns without undue risk to your portfolio.
6. What’s best for you?
It’s good to be well-versed and aware of the subjects you’re interested in, including investing in Mutual Funds. Learning on your own is not wrong but quite often when we wish to learn something new, we tend to hire someone who could help us in learning it faster without making too many mistakes.
So if you’re confident enough to understand the nuances of your portfolio in the short and long run, it makes sense to opt for direct plans. But if you’re not too sure if you’d be able to make wise decisions on your investments, it’s prudent to hire an investment professional and go via the Regular plan. The aim is to focus on an opportunity with investing since investing is a lopsided game where your gains are unlimited and losses are limited. Essentially, everything boils down to the need for a sophisticated Research Framework that identifies the true winners in the long run and exiting the bad ones in the short run.
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