It is basic human nature to check the price of any product before purchasing it. Whether it is a basic household item or a car or anything else. We tend to check the price and compare it with other brands before making any investment. It is only then we come to a conclusion as to whether the product is worth investing in or not.
This human nature applies to our investment decisions as well. When you explore the equity market, the first thing that comes to your mind before making an investment is whether the stock is cheap or expensive. We make our investment decisions based on this perception only. A similar approach is taken when choosing the right mutual funds - you look at the price or the NAV!
But is NAV the same as stock price? What is NAV meaning in mutual fund? How does it relate to your mutual fund investment decision? Let's find out!
What is Mutual Fund NAV?
If you're a new mutual fund investor, then you might be seeing the term NAV or Net Asset Value very frequently. As per the definition, NAV is the unit price of a mutual fund. In other words, mutual funds are purchased and sold on the basis of their Net Asset Value.
In contrast to the share or stock prices which change every second during the trading period, the mutual fund NAV is computed on a daily basis. It is calculated at the end of the day on the basis of a closing price of all the securities owned by that mutual fund scheme after making necessary adjustments.
How to Calculate Net Asset Value of a Mutual Fund Scheme?
The formula for calculating the net asset value or NAV is very straightforward. Here is what it looks like:
NAV = (Total asset - total liabilities) / Total outstanding shares
Why Does the Mutual Fund NAV Fluctuate?
The fluctuations in the net asset value occur mainly because the prices of the securities owned by a particular mutual fund change every day. Each mutual fund is like a basket of securities and/or debt instruments held in that portfolio. Further, the market value of these debt instruments and securities fluctuates as they are traded on different stock exchanges. And due to the changes in their price, NAV also fluctuates.
How is the Mutual Fund NAV Relevant for Investors?
We have discussed the NAV meaning in mutual fund. Now comes the most important question - how is the Mutual Fund NAV relevant for the investors?
NAV merely determines the number of units that are allocated for a particular amount. Therefore, as an investor, you should not worry about the total number of units you have, instead, you should pay attention to how much your investment has appreciated. In fact, the appreciation of a NAV scheme is more important than the net asset value itself.
In essence, investors should focus on the returns and not on the NAV.
What is the Role of NAV in the Performance of A Mutual Fund?
Many investors, especially beginners, think that New Fund Offers (NFOs) are cheaper because they are issued at a minimum NAV of Rs 10.
As we have already discussed, the mutual fund NAV is based on the value of securities owned by the mutual fund. Note that any two different mutual fund schemes with exactly the same portfolio can have different NAVs. One of these mutual funds may have a NAV of Rs.10 while the other with the same portfolio can have a NAV of Rs 100.
This is the main reason why the net asset value of a mutual fund is not the right indicator of its performance. In simple language, you can not decide whether a mutual fund is worth investing in or not based on its NAV.
As a mindful investor, you should always look at the total expense ratio, historical value, and other factors of a mutual fund scheme before making the right investment decision.
Is Mutual Fund NAV the Same as Share Price?
The price of stock is not similar to the net asset value of mutual funds
NAV meaning in mutual fund may seem very similar to a share price. However, both are different parameters. Below are the main differences between the NAV and share price.
NAV is calculated on the basis of the value of underlying securities. On the other hand, the share prices fluctuate on the basis of investor perceptions and the functioning of a company.
NAV is the value of a single unit in a mutual fund, whereas the stock price shows a company's intrinsic value.
Mutual fund investors hold units of a mutual fund. On the contrary, the stock investors hold a stake in the company(ies) in the form of shares.
NAV value is not affected by the demand for a mutual fund, whereas the share prices change according to demand and supply.
NAV is calculated only after the closing of market hours. Whereas the share prices are dynamic in nature and they keep on changing during the market hours.
When you invest in any mutual fund of your choice, you buy the units at their net asset value. Thus, you buy units at NAV, a price that's calculated on the basis of the current market price of all the assets owned by that mutual fund. Essentially, the NAV represents the intrinsic worth of a mutual fund.
However, in the case of equity investing, the stock price of a given company is mostly different from its intrinsic value, or the book value. Also, the stock price can be lower (discount) or higher (premium) than the company's book value. And generally, a lower share price makes an attractive investment option because it is undervalued.
In the case of mutual funds, the net asset value is neither overvalued nor undervalued. It is simply the sum of all the market prices of the contained securities. The underlying mutual fund investment can be undervalued or overvalued but it can't be the fund itself. Therefore, the NAV has no relevance while investing in a mutual fund. This is one of the biggest points where many new investors make a mistake.
Is Lower NAV a Good Indicator?
When you go investing in a mutual fund, you will find hundreds of them with their NAVs ranging from Rs 10 to Rs 2,000 and more. Many investors think that the mutual fund with the lowest NAV is the best for investing as it provides you with a larger number of units.
However, one should understand that a lower NAV doesn't mean that the given mutual fund is cheaper. It has absolutely nothing to do with the performance of a mutual fund.
Then what does mutual fund NAV mean? What is its significance?
The only thing that the mutual fund NAV signifies is —
The higher the net asset value, the older the mutual fund. Note that the NAV can be effectively used to determine the performance of a fund at different intervals.
The Bottom Line
We have discussed the NAV meaning in mutual fund, how it is calculated, how it is different from a share price, and many other important details on the net asset value. Always keep in mind that mutual fund NAV only decides the number of units you will be allocated for the amount you have invested. However, it is not an ideal tool for comparing different mutual fund schemes. A lower NAV doesn't mean that the mutual fund is cheaper, similarly, a higher NAV doesn't reflect that the fund is expensive.
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