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Before investing in ELSS

Arnav Pandya  |  New Delhi 

Check the expense ratio, performance difference and track record of the scheme

Equity Linked Savings Schemes (ELSS) have features of a diversified equity portfolio. A detailed analysis of the same will help in better selection.

Investment in an ELSS helps get a benefit to a maximum limit of Rs 1 lakh under Section 80C of the Income Act. Various other options like contribution to provident fund, contribution to public provident fund, insurance premium paid, etc also get benefit under Section 80C of the I-T Act. Investments made in ELSS are locked-in for a period of three years and each scheme has a different portfolio.

Mutual fund investments have a cost attached to them because every scheme incurs some cost while managing your money. This cost is charged annually and eats into the returns on your investments. An equity-oriented scheme, attracts a fund management fee, also called as expense ratio. This cost is adjusted in the net asset value (NAV) of the scheme and not charged separately. Therefore, the investor does not realise that he is pays this amount to the asset management company. The expense ratio is a percentage of the scheme’s assets under management. For example, if a scheme returns 10 per cent and its expense ratio is 1 per cent, it means, the scheme earned 11 per cent of which 1 per cent went towards the various expenses.

According to the data from mutual rating agency, Value Research, 14 schemes had an expense ratio of 2.5 per cent and 19 others had a lower expense ratio. Of the top 10 ELSS schemes seven had a ratio lower than 2.5 per cent, while the remaining three had a ratio of 2.5 per cent, in the last one year ending January 27. This kind of lower cost is good for a long-term investor who stays invested in the scheme for several years.

Many ELSS have been launched till now, but, since fund houses usually do not launch multiple schemes with similar features, the total number of ELSS is limited. And, the presence of a large number of schemes with a long performance record helps investors research enough for selecting the right scheme.

Thus, it is not surprising that most of the top performing schemes, even in the past one year, are those that have been in the market for several years. In the last one year, six ELSS have returned more than 100 per cent. Last ELSS scheme was launch in October 2005 and the first scheme came to the market in March 1993. Investors need to look at each ELSS portfolio.

Moreover, when time-tested schemes perform well, investors are more confident about putting their money.

If your scheme selection goes wrong, there are chances of witnessing a big difference in the return you receive as schemes differ in their performance from one another.This situation can be illustrated better when it involves the selection of a equity diversified scheme. In this case, a wrong choice can lead to a large difference in overall performance and hence the returns received by the investor.

However, this does not hold true for ELSS. As the variance is comparatively less in their case . In the last one year, the best performing scheme returned 127 per cent and the worst performer returned 63 per cent, as on January 27. In comparison, the difference between the worst and best performing equity divesified fund was a whopping 138 per cent

When compared over a period of two or three years, returns given by the best and the worst performing ELSS were 24 per cent and 22 per cent per annum, respectively.

This is less than half, when the best and the worst performing equity diversified schemes are compared. The difference stood at 57 per cent and 46 per cent per annum, respectively. The absolute difference will be far higher, as the figures are compounded over different time periods. This helps investors select a good ELSS scheme before investing.

The writer is a certified financial planner

First Published: Sun, January 31 2010. 00:17 IST