## Tuesday, August 19, 2008

### Some myths about entry and exit load

A lot of us think that an entry load of 2% is reasonable but an exit load of 2% is expensive. Our reasoning is simple. The exit load of 2% is charged on the accumulated fund value (including returns earned) whereas the entry load is only paid on our initial investment. Lets us delve deeper by looking at the below two examples.

Example 1 : I invested Rs.1,00,000 in a fund XYZ. It charges an exit load of 2% but does not charge any entry load. Let us assume the fund gave returns of 18% for 20 years.

Net Amount Invested = Rs.1,00,000 (no entry load)
Rate of Return = 18%
Number of years invested = 20
Fund value after 20 years = Rs.27,39,303
Exit Load = 2% * Fund Value = 2% * 27,39,303 = Rs.54,786

Example 2 : I invested Rs.1,00,000 in a fund ABC. It charges an entry load of 2% and does not charge any exit load. Let us assume the fund gave returns of 18% for 20 years.

Entry Load = 2% * 1,00,000 = Rs.2,000

Initial Interpretation : At the first glance one will obviously think that entry load of Rs.2,000 is reasonable but an exit load of Rs.54,786 is expensive.

The Bigger Picture
Now lets take a look at the bigger picture and revisit the same examples.

Example 1 : I invested Rs.1,00,000 in a fund XYZ. It charges an exit load of 2% but does not charge any entry load. Let us assume the fund gave returns of 18% for 20 years.

Net Amount Invested = Rs.1,00,000 (no entry load)
Rate of Return = 18%
Number of years invested = 20
Fund value after 20 years = Rs.27,39,303
Exit Load = 2% * Fund Value = 2% * 27,39,303 = Rs.54,786
Redemption Value = Fund Value - Exit Load = Rs.26,84,517

Example 2 : I invested Rs.1,00,000 in a fund ABC. It charges an entry load of 2% and does not charge any exit load. Let us assume the fund gave returns of 18% for 20 years.

Entry Load = 2% * 1,00,000 = Rs.2,000
Net Amount Invested = Investment - Entry Load = Rs.98,000
Rate of Return = 18%
of years invested = 20
Fund Value after 20 years = Rs.26,84,517
Redemption Value = Rs.26,84,517 (no exit load)

The redemption value in both the cases are exactly the same. What this tells us is the impact of an entry load of 2% is equal to an exit load of 2%.

My Conclusion
It is essential to look at the bigger picture to understand numbers related to investments. Like in our example an entry load of Rs.2,000 turned out to be equal to an exit load of Rs.54,786.

Manish Chauhan said...

This was so intutive , I was overwhelmed .. I myself write on Mutual funds and other personal finance products , but never realised it . Its simple calculation but needs deep vision to understand it . Great article

Manish Chauhan
http://finance-and-investing.blogspot.com/

Sharesher said...

As expected from you, an excellent and interesting article.
Great work Raj. Keep it up
Srikanth Shankar Matrubai