Maximize Your Index Fund Returns with the Lowest Expense Ratio

Index Fund, as the name suggests, is a type of mutual fund designed to mimic the composition and performance of a financial market index. Index funds are usually considered ideal for low-risk investors looking to generate steady returns. These funds provide broad market exposure and low operating expenses.Since these funds mimic the stock exchange it is based on, they follow a passive style of investment, and hence usually come with a low expense ratio. However, since the returns of most index funds could be similar, expense ratio can often become the deciding factor when selecting an index fund.

The expense ratio calculates the amount spent on the management of funds as a percentage of the total amount invested in mutual funds.

Expense Ratio % = ( Fund management expenses / Fund assets ) x 100

Consider an example. Suppose you have invested Rs. 100 in a mutual fund, which has an expense ratio of 2% and earns returns of 20%. Investment (Fund Assets) = Rs. 100 Fund Management Expenses = Rs. 2 Total Returns = Rs. 120 Deducted returns = Total Returns - Fund Management Expenses = Rs. 118 Therefore, you will earn a return equal to 18% (20% - 2%) by the end of the year.As concluded from above, lower the expense ratio, greater is the return, and vice versa. Hence, it is advisable to go for the lowest expense ratio to maximise your returns. Generally, an expense ratio above 2.50 per cent is considered as a high ratio.

Lowest expense ratio on mutual funds means higher profitability, and a higher ratio means low profitability. If you have already started investing in an index fund with a higher expense ratio, you can always switch to a fund with a lower ratio on completing one year. If you haven't, then go for the lowest possible expense ratio to ensure maximum returns.

The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.