Mutual funds are a popular investment option for individuals looking to diversify their portfolios and earn returns on their investments. One of the key metrics that investors use to evaluate mutual fund performance is the Net Asset Value (NAV).
The NAV of a mutual fund is the value of each share of the fund. It represents the price at which investors can buy or sell shares of the fund.
How is NAV calculated
The NAV is calculated by dividing the total value of the assets in the fund's portfolio by the number of outstanding shares.
NAV= Total value of the assets in the fund’s portfolio/Number of outstanding shares
Myths around Mutual funds NAV
However, several misconceptions surrounding NAV may prevent investors from making informed decisions about their investments. In this context, let’s explore the 4 most common myths about mutual fund NAV and debunk them.
Myth #1: A higher NAV means a better mutual fund
One of the most common misconceptions about mutual funds is that those with a higher NAV perform better than those with a lower NAV. It is a myth that can mislead investors. Investing options should not be evaluated solely by the NAV of a mutual fund. Rather, investors should consider the mutual fund’s fees, expenses, investment strategy and historical performance.
The NAV of a mutual fund is calculated at the end of each trading day. Management fees and expenses are included in this calculation.
Myth #2: NAV reflects the performance of a mutual fund
The NAV of a mutual fund does not reflect its performance. It only represents the net asset value per share at the end of the trading day. The fund's historical returns, investment strategy, management team, fees and expenses, and other factors are better indicators of its performance.
The Net Asset Value (NAV) of a mutual fund is influenced by a variety of factors, including:
- Market movements: The NAV of a mutual fund is affected by the price movements of the securities in its portfolio. If the securities in the portfolio appreciate in value, the NAV of the fund will increase and vice versa.
- Fund inflows/outflows: If more investors buy shares in the fund, the number of outstanding shares will increase and the NAV per share will decrease and vice versa.
- Fees and expenses: The fees and expenses associated with managing a mutual fund, such as management fees and operating expenses, can affect the NAV.
- Dividends and distributions: Mutual funds often distribute dividends and capital gains to their shareholders. These distributions can impact the NAV of the fund.
- Corporate actions: Corporate actions such as stock splits, mergers and acquisitions can affect the NAV of a mutual fund that holds those securities.
Myth #3: NAV determines the value of a mutual fund investment
While the NAV is used to calculate the price of a mutual fund share, it is not the only factor that determines the value of an investor's investment. Capital gains and dividends are included in calculating the value of a mutual fund investment. A fund's return depends on several factors, including the performance of the underlying securities, fees, and expenses.
There are several ways in which expenses, fees, and market conditions can impact the value of a mutual fund investment. Here are a few examples:
- Fees and Expenses: If a mutual fund charges a 1% expense ratio and the fund's NAV increases by 10%, the investor's actual return would be 9%.
- Market Conditions: If the stock market experiences a downturn, the value of the stocks held in a mutual fund's portfolio may decline, resulting in a lower NAV and a lower value for the investor's investment.
- Capital Gains and Dividends: Mutual funds can generate capital gains from the sale of securities in the fund's portfolio, as well as dividend income from the securities held. These gains and income can increase the NAV and the value of an investor's investment.
Myth #4: Mutual funds with a higher NAV are more expensive
Another common misconception about mutual fund NAV is that funds with a higher NAV are more expensive than those with a lower NAV. The NAV of a mutual fund has no bearing on its expense ratio, which is the annual fee charged by the fund for managing its assets.
Expense ratios are a metric used to compare the costs of different mutual funds. Expense ratios impact the NAV of a mutual fund, as they are subtracted from the fund's assets.
Therefore, a mutual fund with a higher NAV can have a lower expense ratio than one with a lower NAV. For example, a mutual fund with a higher NAV might have lower expenses due to economies of scale, while a fund with a lower NAV might have higher expenses due to lower assets under management.
Conclusion
The NAV is an important measure for investors to track because it indicates the value of their investment in the mutual fund. Investors can use the NAV to determine whether the price of the fund is rising or falling over time and to compare the performance of different mutual funds. However, it's important to note that the NAV alone does not provide a complete picture of the fund's performance and investors should also consider the other factors mentioned above.