What is expense ratio? Does it impact the net asset value (NAV) of a mutual fund scheme?

—Naina Sutaria

Expense ratio is the measure of fee charged by the mutual fund company to manage your money. Such fees range from, say, 0.10% to 2.5% per year depending on the type and size of funds. Liquid funds charge the least expense ratio, and equity funds charge the most. As the size of a fund goes up, the expense ratio goes down as the cost of managing the funds decreases with asset size. Expense ratio is deducted from the corpus of the fund on a daily basis. This ensures that each investor pays fees that is exactly proportional to the number of days that they stay invested in a fund. This deduction eventually reflects in the NAV of the fund.

The lower the expense ratio (also called total expense ratio or TER) of a fund, the higher the profits of the investment that accrue to the investor. However, TER should not be the main criteria in terms of choosing funds, especially when it comes to managed funds (as opposed to index funds). A well-managed fund would likely return higher post-fee returns than a poorly managed fund. That said, if there are two funds that are similar in terms of risk and return profiles, then choosing the one with a lower TER would be wiser.

I invest 4,000 each in ICICI Pridential Bluechip, Axis Midcap, Mirae Asset India Equity, Axis Focused 25 and HDFC Small Cap. My time horizon is 8-10 years and I want to build a corpus of 1.3 crore. Please advise.

—Name withheld on request

To build a corpus of 1.3 crore in 10 years, you would need to save and invest close to 55,000 a month between now and then. At present, you are investing 20,000 a month, and this will get you to about 45 lakh in the same period (assuming a 12% annual return over this period). So, before finalizing the fund portfolio, you would need to ensure that you are investing sufficiently to meet your goals. As far as the schemes go, you are investing equal parts in a large-cap fund, two mid- or small-cap funds and two funds that are diversified. Most of the funds you have chosen are of reasonable quality. You may want to consider replacing one of the two Axis MF funds with equivalents such as L&T Midcap or Franklin India Equity. Other than that, you can leave your portfolio and allocations as they are. You should focus mainly on investing more every month to get to your target.

Srikanth Meenakshi is co-founder and COO, FundsIndia.com.