Change in mutual fund fees: Will performance-linked fees benefit investors?

Date : 08/06/2023
Read: 3 mins

Linking the fund management fee to the performance of the mutual fund scheme can be a new change in MF fees. But will it be good for investors? Learn now!

SEBI might introduce performance-linked fees for mutual fund schemes.
The fees would link the expense ratio to the fund's performance – better the performance, higher the fees, and vice versa.
The scheme can have many benefits, such as cost-effectiveness, transparency, higher return potential, etc.
There are drawbacks, too, like difficulty understanding, taking on higher risks, compromising long-term growth for short-term benefits, etc.

Mutual funds (MF) are low-cost investment avenues with various benefits, such as–

Professional fund management
Affordable investment
Attractive return potential
Liquidity, etc.

MF schemes levy certain charges, e.g., a percentage of the fund's total assets. This is called the expense ratio. The Securities and Exchange Board of India (SEBI) has set certain limits on the maximum expense ratio that mutual funds can charge. However, SEBI is now contemplating a fundamental shift in the expense ratio by allowing mutual funds to charge performance-linked incentives for managing funds.

Also Read – Know What Are The different Types Of Charges Applicable While Investing in Mutual Funds.

What is the performance-linked incentive?

Performance-linked fees, also known as performance-linked incentives or performance-based MF fees, are the fees charged by mutual fund managers based on the mutual fund's performance. With this scheme, the fund houses will be able to charge higher expense ratios for funds that are consistently performing better.

The incentive is being considered in the context of the underperforming active schemes, wherein such a fee would lower the expense ratio. It would also help align the fund managers' interests with those of the investors by linking the managers' compensation to the performance of the funds.

Let's understand the pros and cons of the fees –

Pros and cons of performance-linked fees

Also Read – When It Comes To Investments In Mutual Funds-Which MF Plan Is Better-Direct Or Irregular?

Performance-linked incentives can be a strategic tool for mutual fund investors to align their interests with those of investment managers, resulting in potentially higher returns and improved performance. However, investors should conduct due diligence and a thorough analysis of the fund and the fee structure before investing to ensure efficacy. If implemented strategically, performance-linked fees can be an effective fundamental strategy to optimise the returns on mutual fund investments and mitigate risks for investors.

Also Read – Does the Size of Mutual Fund Schemes Impact Performance