However, we seldom find investors look into the cost factor; it is performance that lays uppermost in the mind of investors.

Hot funds and cold funds, leaders and laggards are all classified on the basis of the returns they generate. We hardly attach any importance to the cost factor. So what exactly are these costs and how do they impact your returns. Take a look.

All mutual fund investments, or for that matter, all investments involve costs directly or indirectly. However, there are some costs involved in investments in mutual funds which you can avoid while others are inevitable. Your discretion is limited to choosing funds whose policies and practices will cost you less. In anycase, you should know what costs you are incurring - and why - when you invest.

While looking into the cost factor, consider three things: cost of entering the fund, cost of staying with the fund and cost of exit.

Cost of Entry

The charge which is levied at the time of purchase into a fund is termed as sales load or front-end load. Perhaps, loads are the best known and most talked about sales and commission charges while investing in a mutual fund. Funds that choose not to impose them have made the term `no-load' fund all the more popular. And why not? Load funds perform no better than no-load funds. An entry load could vary anywhere between 0 to 6 per cent.

To see vividly how load can dampen your returns consider this: You invest Rs 1,000 in a fund which has a NAV of Rs 10 and attracts a 6 per cent entry load. You would be allotted a certain number of units which is equivalent to the net asset value plus the sales charge. In our hypothetical case, the offering price is Rs 10.06 (six per centenaryload on a unit price of Rs 10) and you will be allotted 94.34 units.

If the net asset value does not change and you decide to sell the units the very next day, what you would get back is Rs 943.40, based on the number of shares multiplied by the NAV. Clearly, your loss is Rs 56.60 on an investment of Rs 1000.

Besides, ask yourself a simple question. In how many days can you break-even or reach a point of no loss, no gain if the market does not fall at all.

Assuming that the fund moves at the same pace as the market, it requires a 180 to 240 point rise in the BSE Sensex on the assumption that the sensex is in the range of 3000 to 4000 points.

In the present state of the market which leaps one step forward and two steps backwards, it is anybody's guess on how long it will take to get to the point of no loss. On the contrary, if you had bought Rs 1,000 worth of no-load fund units at the net asset value of Rs 10 per unit and sell them the next day without any change in the NAV, you would get back theentire original investment of Rs 1,000. No gain but no loss either.

Cost of Staying with the Fund

The cost of staying with the fund includes the annual ongoing expenses that mutual funds charge. These include investment manager fee, audit fee, trusteeship fee, administration expenses apart from operating costs. Currently, funds are allowed to charge a maximum of 3 per cent of average net assets as annual expenses as per the guidelines of Securities and Exchange Board of India. However, some fund managers are self disciplined and charge less than the maximum permissible limit.

Unlike loads, the annual expenses charged by the fund is reflected in the net asset value. The reported performance is net of management fee and overhead costs. So if you were to compare the performance of funds, a fund that nets a higher NAV return will be better irrespective of the expenses charged.

To state it differently, given the same portfolio, a fund with lower expense will deliver higher returns than one with a higherexpense. But as fund prospectus always tells you, past performance is no guarantee of future results.

But in the case of expenses, it is quite the opposite. Past behaviour is an extremely good indicator of future behaviour. If the performance fizzles, there is quite a good chance that an expensive hot fund could become an expensive average fund.

But don't work too hard on this aspect right now because there is not too much difference in the annual expense structure that most funds follow at the moment. Nonetheless, soon this will emerge as a distinguishing factor between funds as they compete more fiercely for investors' pocket. Till then just be aware.

Cost of Getting Out

The cost of getting out of a fund is nothing but the fee that you pay on redemption, which is called a exit or back-end load. Certain mutual funds impose the fee for redemption within a year or two of purchase to discourage short-term investments which tend to destabilise the fund. Unless that is the case, there is no need for youto get into a fund that charges a redemption fee.

Collectively, look at the spread between the buy and sell price and insist on a low spread to enrich your returns. The total return on your investment is only after you account for the spread. NAV performance may be exemplary but it could well translate into ordinary returns after accounting for the load factor.

In a world in which you have to invest to generate returns for your future needs, expenses matter a lot. With this reality in mind, marry two numbers: the funds performance relative to its peers and the cost of ownership of the fund in comparison to its peers.