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NAV: Net Asset Value of Mutual Funds - Meaning, Importance, Calculation, and Other Aspects
Net Asset Value (NAV) is an important measure for mutual fund investors. It helps them in determining the value of their investments, assessing the performance of the mutual fund, and making informed investment choices. Understanding the concept of NAV and its applications allows investors to make informed decisions that align with their financial goals.
This article explains the NAV in detail and covers its aspects like: meaning of NAV, role of NAV, its importance, calculation, and the most asked questions on NAV. Let’s begin!
Net Asset Value (NAV)
An equity fund is a type of mutual fund or investment fund that primarily invests in stocks or equities. These funds pool money from multiple investors to purchase a diversified portfolio of stocks, providing investors with exposure to a broad range of companies and industries.
Equity investment refers to the purchase of ownership (equity) in a company through the acquisition of stocks or shares. When an individual or institutional investor invests in equity, they become a partial owner of the company and hold a claim on its assets and earnings. Equity investment is synonymous with stock investment, and individuals who own stocks are known as shareholders or equity investors.
How does NAV work?
All the mutual funds buy and sell orders are determined according to the cut off time of the NAV of the trade date, even though NAV is calculated and reported as of specific business day. For instance, buy and sell orders received prior to 1:30 P.M. will be carried out at the NAV of that specific date if regulators enforce a 1:30 P.M. cut off time. Orders received after the deadline will be handled using the NAV of the next working day.
All the mutual funds buy and sell orders are determined according to the cut off time of the NAV of the trade date, even though NAV is calculated and reported as of specific business day. For instance, buy and sell orders received prior to 1:30 P.M. will be carried out at the NAV of that specific date if regulators enforce a 1:30 P.M. cut off time. Orders received after the deadline will be handled using the NAV of the next working day.
Mutual Funds and NAV
The units of the mutual funds are bought and sold at the NAV. Unlike the stock prices which fluctuate during the entire trading day, the NAV of the mutual funds is determined at the end of each closing day. The Fund Managers determine the NAV of the mutual funds based on the closing price of his portfolio, make an addition of assets, subtracts the liabilities, and compute the NAV based on the outstanding number of shares.
Importance of NAV
The mutual fund investors consider comparing the two NAVs to form the basis for deciding the performance of the mutual fund. However, the NAV of the mutual fund is not the sole indicator of the mutual fund performance. The mutual funds are purchased or sold at the NAV of the fund. The importance of NAV of a fund is solely useful for the purchase and sale of the same and nothing else.
Role of NAV
NAV is just the price which an investor may pay to buy a mutual fund scheme or sell the same. The NAV of a mutual fund alone is not the indicator of the mutual fund performance. Investors look for other aspects of mutual funds like annual total return, Compounded Annual Growth Rate (CAGR), and so on for taking investment related decisions in mutual funds.
However, the role of NAV is listed as below:
Helps to manage mutual funds: The mutual fund companies make use of NAVs to manage the portfolios. The NAV plays an important role in determining the expense ratio as well.
Helps to measure the performance of mutual funds: NAV is one of the reliable measures for assessing the performance of the mutual fund. Referring to the NAV of mutual funds and comparing the same over a period of time, investors are able to gauge whether the firm is generating a positive return or not.
Price at which mutual funds are bought and sold: The mutual fund schemes are bought and sold at NAV of the prevailing date of buy and sell. As a result, NAV impacts the investment decision of the investors.
NAV Calculation
NAV is calculated by dividing the difference between the assets and liabilities of companies and business entities by the number of shares held by the investors. The NAV is denoted on a per unit basis for the units of the mutual fund. Following is the formula for NAV Calculation:
NAV = (Assets - Liabilities)/Total Number of Outstanding Shares
Usually, NAV is determined using the book value of assets and liabilities rather than the market value or realizable value.
Each component of NAV calculation is elaborated below:
Assets: The assets section of mutual funds includes the total market value of the fund’s investments, receivables, cash, cash equivalents, and other accrued income. It is determined by using the closing prices at the end of each day of various securities in the fund’s portfolio.
Liabilities: The liabilities section of mutual funds includes outstanding payments, money owed to lenders, accrued expenses, foreign liabilities, and so on. While determining the NAV, the liabilities of the mutual fund should be excluded from the assets.
Total Number of Outstanding Shares: The total number of shares issued by the mutual fund represents the total outstanding shares for calculating NAV.
The NAV calculation is explained with an example below:
Suppose the total assets of a mutual fund scheme X is INR 1,500 Lakh. The total liabilities is INR 500 Lakh. The fund has issued 100 Lakh units of INR 10 each to the investors. Calculate NAV per unit?
Let’s find out the NAV of mutual fund scheme X:
Particulars | Amount (INR in Lakh) |
|---|---|
Total Assets | 1,500 |
Less: Total Liabilities | (500) |
Net Assets | 1,000 |
Divided By: Total Number of Units | 100 |
NAV per unit | 10 |
How is NAV different from Market Price?
Unlike the market price of the shares which is influenced by the market demand and supply forces, the NAV is determined by the Fund Managers at the end of each day. The market forces do not have much relevance on the NAV of the mutual funds. The performance of the shares is truly indicated by its market price. However, the NAV of the mutual fund alone is not the indicator of the performance of the mutual fund.
Frequently asked questions
Q
When is the NAV updated in general of a mutual fund scheme?
A
The Asset Management Companies (AMCs) update the NAV at 11:00 P.M. on the same working day. The NAVs are updated either on each fund's website or commonly on the website of Association of Mutual Funds in India (AMFI).
Q
Does the NAV remain the same or constant each day?
A
The Mutual Fund Companies makes the ultimate investment in various stocks, bonds, etc. of other companies, the NAV of the mutual funds changes in response to the fluctuations in shares
Q
Is NAV a performance indicator of the mutual fund scheme?
A
The NAV is not a determinant of the performance of the mutual fund scheme. It facilitates the buying and selling of the mutual fund units by the investors
Q
Is a higher NAV better or a lower
A
A higher NAV cannot be considered as a performance indicator alone. It is a mere benchmark for determining the per-unit value of a mutual fund. As a result, a better option to make investment decisions related to mutual funds would require a detailed analysis of past performance, study of the history of such funds, and other factors.
Q
What are the common misconceptions about NAV?
A
A common misconception about NAV is that the mutual funds with a higher NAV are the better performers. It is because of the unusual comparisons made between the share price and NAV. However, the reality is that the NAV is not an indicator of the quality or the performance of the mutual fund.
Q
Can a NAV of a fund be negative?
A
Even though the daily change in the NAV can be negative, the absolute value of NAV can never be negative. For example, NAV of a mutual fund might have dropped from INR 25 to INR 22 in a single day, representing a -12% change in the fund’s NAV for that day. However, a fund with a NAV of INR -25 or INR -22 will never be seen. Reason being, The value of the underlying total assets of the mutual funds are always greater than the current liabilities of. As a result, NAV stays positive.
Q
Do all types of expenses are included while calculating NAV?
A
Expenses such as mutual fund management fees, expenses incurred to administer the fund, fund distribution fees or loads, and taxes, are included in the calculation of NAV. In short, the expenses incurred while operating the mutual fund and in connection thereof are considered.
Q
Do the regulatory changes impact NAV of a mutual fund?
A
Yes. Regulatory changes do impact the NAV of the mutual fund. For example: if a new regulation is introduced that may require a particular mutual fund scheme to reduce the investments in riskier securities or make more investments in conservative assets, the entire portfolio of such a scheme may undergo a change.
Q
Does the NAV for different classes of shares differ?
A
Yes, Indian investors can invest in international equity funds. These funds provide exposure to global markets, offering diversification beyond domestic equities. However, it's essential to understand the associated currency risks and regulatory aspects.
Q
Is NAV calculation directed by any regulation or guideline?
A
Yes. Mutual funds are regulated by the Association of Mutual Funds in India (AMFI) along with the regulations of the Securities and Exchange Board of India (SEBI) issued on time-to-time. Thus, the calculation of NAV is also directed by the regulation or guidelines as and when issued by the AMFI and SEBI.
Prachi Jain
Chartered Accountant
Prachi Jain is a Chartered Accountant with a passion for simplifying finance and tax-related matters through her insightful and informative blogs. With a background in finance and a deep understanding of tax regulations, Prachi has established herself as a trusted source of financial wisdom. Prachi is committed to empowering her readers with the knowledge they need to make informed financial decisions. Her expertise and dedication shine through in every blog post, helping her audience navigate the intricacies of finance and taxes with confidence. Follow Prachi Jain's blog for practical insights and guidance on managing your finances effectively.
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