Mutual funds: 'Lower fees don’t always mean higher returns in active funds', says Niranjan Avasthi of Edelweiss MF

The widely held belief that lower expense ratios automatically translate into higher returns in equity mutual funds does not hold true for active funds, according to Niranjan Avasthi, Senior Vice President, Edelweiss Mutual Funds.

“‘Low Expense = High Returns’ is a myth in active equity funds,” Avasthi said in a post on X. “While this may hold true if all other factors remain constant, as in passive funds, the reality in active equity funds is much more nuanced.”

Unlike passive funds, where the focus is on tracking an index at minimal cost, active equity funds rely heavily on fund managers’ stock-picking skills to generate alpha. In such funds, Avasthi explained, the expense ratio — often a small percentage relative to overall returns — does not significantly impact performance outcomes.

Backing his view with data, Avasthi pointed to an analysis of all active equity funds over the past three years, which revealed no consistent relationship between lower expense ratios and higher returns across fund categories.

“In fact, there is no clear correlation between expense ratios and fund performance across categories,” he noted.

No linear relationship

The numbers tell a revealing story. In the large-cap category, funds with mid-range expense ratios (2.00–2.25%) delivered the highest average three-year return of 20.27%, narrowly edging out the lowest expense group (

Similarly, in flexicap funds, the highest average return (24.21%) was seen in the 2.00–2.25% expense bracket, while funds with expenses below 1.75% returned a lower 21.28%.

“In the multi-cap space, the lowest expense group did outperform others with a 29.91% return,” Avasthi said. “But interestingly, even the highest expense group (>2.25%) performed well at 25.30%, showing there’s no linear relationship.”

The trend persisted in other categories. In large & midcap, midcap, and smallcap funds, higher expense ratios often coincided with strong returns. “For instance, in the midcap category, funds with expenses between 1.75–2.00% delivered the highest average return of 27.71%, surpassing even the lowest expense group,” Avasthi observed.

Why expense ratios matter

However, Avasthi acknowledged that expense ratios remain a crucial metric for investors to consider, especially in certain contexts:

“They absolutely matter because they directly cut into your profits,” he said. “For example, if a fund posts a 10% annual return but charges a 2% expense ratio, your effective gain is trimmed to 8%. This becomes significant in turbulent markets where small percentage differences can have outsized effects.”

He further noted the long-term impact. “When investing for the long haul, as in Systematic Investment Plans (SIPs), even modest differences in expense ratios can compound dramatically over time, creating a sizable gap in your eventual wealth accumulation.”

Lower expenses are particularly critical in index-based investments like index funds and ETFs. “The lower the fees, the closer the returns stay to the underlying benchmark since these funds don’t seek to outperform it,” Avasthi explained.

High-net-worth individuals and institutions, managing significant sums, stand to save substantial amounts from lower expense ratios. “These savings directly improve overall portfolio performance,” he said.

Additionally, lower fees can indicate efficiency and transparency. “Mutual funds with lower expense ratios often reflect leaner, more efficient management. Investors can feel more confident that their capital isn’t being depleted by excessive fees but is instead working to generate returns,” Avasthi added.

Expense ratio in 2025

As of 2025, fund managers are under mounting pressure to keep costs competitive amid heightened investor awareness and tighter SEBI oversight. Direct plans, known for their cost advantage over regular plans, continue to gain popularity. Meanwhile, actively managed funds must prove that their higher costs are justified by delivering returns that exceed market benchmarks, especially in uncertain economic conditions.

According to Avasthi, investors evaluating active equity funds should look beyond just expenses. “The data makes it clear: there is no consistent pattern linking lower expenses to higher returns in active equity funds,” he concluded. “So next time someone claims that lower expenses guarantee higher returns, remember that the numbers tell a different story.”