What is NAV & How much does it matter?

What is NAV

What is NAV and How much does it matter?

What is NAV?

When you buy a mutual fund you buy its units. NAV i.e. Net Asset Value is the value per unit of a mutual fund scheme.

So, if you invest 50,000 Rs. in a mutual fund at an NAV of 20 Rs., then you will be allotted 2,500 units of the fund. Now, suppose you want to redeem the fund after 1 year and the NAV has increased to 22 Rs., then you will get 2,500 x 22 = 55,000 Rs. You can see that a 10% increase in NAV has increased your investment value by same percentage.

In a way, NAV is similar to stock prices, however stock prices fluctuate throughout the day but NAV remains the same.

How is NAV calculated?

NAV of a fund is calculated by finding out the per unit market value of all the assets and subtracting any liabilities. Hence, the formula is

NAV = (Assets-Liabilities)/Outstanding Units

Assets – Assets are shares, bonds, and cash held by the fund along with any dividends received and any accrued interest.

Liabilities – Liabilities are any outstanding debts and all the accrued expenses.

Outstanding Units – These are the number of units collectively held by all the investors.

Is lower NAV better?

There is a misconception that lower NAV is better and this is used by sales people to encourage investors to buy New Fund Offers (NFOs) since their NAV is 10. However, NAV has no relation to fund’s performance. A good fund is good no matter what is its NAV. Let us see an example:

Fund A has NAV of 15 and Fund B of 50 and you invest 15,000 Rs. in each.

No. of Units in Fund A = 15,000/15 = 1,000

No. of Units in Fund B = 15,000/50 = 300

Now, let us assume that both funds have given 10% returns in a year, hence the NAVs will be,

Fund A = 16.5

Fund B = 55

Now if you redeem, you will get,

Fund A = 16.5 x 1000 = 16,500 Rs.

Fund B = 55 x 300 = 16,500 Rs.

Hence, you can see that NAV does not impact the returns and a lower NAV is not better than a higher one. While selecting a fund, look into its past performance, fund management etc. and not the NAV.

Impact of Dividend on NAV

When a fund pays out the dividend it sells some of its holding to provide for it. Since the NAV reflects the value of the stocks or bonds held by the fund, its value goes down by the dividend paid by the fund. For example, if the NAV of a fund is 30 Rs. and it pays a dividend of 1 Rs., then the NAV will go down to 29 Rs. Dividends are not additional income but are paid out from your own money held with the mutual fund.

NAV of Direct Fund vs Regular Fund

Another point where investors gets confused is while switching from a regular fund to direct fund. Since Direct funds do not attract any commissions, their returns tend to be 1%-1.5% higher than the regular funds, hence their NAV is also high.

At the time of switching from regular to direct fund, investors think that since they get lesser number of units in the direct plan due to its higher NAV, their fund value is impacted.

However, the fund value remains intact, it is just that they get lesser units with higher NAV and after switching the returns are higher than the regular fund.

For example:

You have current invested value of 10,000 in fund X which is a regular fund and the NAV of X is 20. This means you have 500 units. X (D) is the direct plan variant of X and it has an NAV of 21. Then when you switch to X (D), you will get 476.19 units, but your investment value will remain 10,000 Rs. Let us assume in next year the NAV of X has increased to 22, then the approximate NAV of X (D) will be, 23.31 (considering commission of 1.5%).

Your investment if you have continued with X = 500 X 22 = 11,000 Rs.

Your investment in X (D) = 23.415 X 476.19 = 11,150 Rs.

So, in one year you have gained around 150 Rs., over the years this difference will compound and you will get around 30%-40% higher value in the direct plan than the regular one. You can see the detailed calculation in our Direct vs Regular plan blog here.

NAV is the price point of your mutual fund investment and looking into it alone will not give you any insight about the fund. NAV can be used to find out the return given by a fund over time, but NAVs of different funds cannot be compared. Do not fall into the trap that lower NAV is better and avoid misconceptions like investing in NFOs is better or by switching into direct funds you are not getting value for your money.

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