Myth busting: Common misconceptions about mutual fund NAV

Many investors hold misconceptions about the Net Asset Value (NAV) of various mutual funds and its association with a fund's performance and returns. Simply put, NAV represents the current value of each unit in a mutual fund and is calculated by deducting liabilities from assets and dividing the result by the number of total units in the fund.
Fund houses declare the NAV on a daily basis. In the following section, we aim to dispel prevalent mutual fund NAV myths.

• Table of contents:

1. Myth #1: Higher NAV in mutual funds equals better performance
2. Myth #2: NFOs offer cheaper NAVs at Rs.10
3. Myth #3: Misunderstanding negative NAV in mutual funds

Myth #1: Higher NAV in mutual funds equals better performance

Associating a scheme’s current NAV with its absolute returns is a common misconception. Some investors wrongly believe that a higher NAV automatically translates to superior returns. However, the truth is though the NAV is a performance measure, it's not the standalone indicator of a fund's performance.
True performance lies in the change in NAV over a specific period. That's what reflects how well a fund has actually performed during that time. And here's the reality—older funds generally have higher NAVs due to their age, not necessarily superior returns.
Suppose you invest in Fund X, which starts with a NAV of Rs. 50, and it experiences a gradual growth to Rs. 100 over the course of 3 years. At the same time, your friend chooses to invest in Fund Y, which begins with a lower NAV of Rs. 30 but quickly rises to Rs. 100 within the same 3-year period. (For illustrative purpose)
This example clearly illustrates that relying solely on NAV to judge a mutual fund's performance can be misleading. Therefore, it is essential to examine deeper into the fund's overall performance and evaluate its returns over time.
Moreover, an informed investment decision involves analysing various factors beyond just NAV. This can allow you to make wiser investment choices and avoid falling prey to common misconceptions. So, always remember to look beyond the surface, understand the true performance metrics, and make your investments wisely.

Myth #2: NFOs offer cheaper NAVs at Rs.10

There's a common misconception surrounding New Fund Offers (NFOs) claiming that since their NAV is typically Rs.10, it's more cost-effective to invest during the NFO period than later when the NAV might rise to Rs.30 or Rs.40.
While this myth might have been prevalent in the past, it's essential to address the reality of the situation. The NAV of Rs.10 in NFOs is merely a starting point and has no bearing on the fund's potential performance or returns. As the fund starts its operations and begins investing in various assets, the NAV will naturally fluctuate based on market conditions and the fund's underlying investments.
The misconception that NFOs are cheaper is simply not accurate. Unlike shares or bonds, mutual funds have no concept of a ‘cheap’ or ‘expensive’ NAV. It is essential to grasp the relationship between NAV and the amount you invest to understand this better.
For instance, let's say you have Rs. 10,000 to invest in a mutual fund, and the fund's NAV is Rs. 10. With this amount, you would receive 1,000 units of the fund. Now, if the fund performs well and the NAV grows, reaching Rs. 60 (six times the initial value) over ten years, the value of your investment would also rise to Rs. 60,000. (For illustrative purpose)
The takeaway here is that the performance and growth of the mutual fund matter more than the initial NAV. Aiming to invest in funds with a strong potential and track record is crucial, as they have the capacity to generate significant returns over time, regardless of the starting NAV Value.

Myth #3: Misunderstanding negative NAV in mutual funds

Investors may have the misconception that a mutual fund’s NAV may become negative in case it continues to drop. For instance, if the NAV drops from Rs. 50 to Rs. 40 in one day, indicating a -20% one-day change, the NAV becomes negative. However, the actual NAV can never be negative, for e.g., Rs. -10, or Rs. -20, even if the daily change shows a negative percentage. You must note that while the NAV may not be negative, the value of investment can witness a loss if the NAV dips below the cost of investment.
Instead of focusing solely on the mutual fund NAV value, investors should look at the investment strategy, risk profile, and experience of the fund manager. By doing so, investors can avoid misconceptions and take a more comprehensive approach to evaluating mutual funds, ultimately helping them achieve their financial goals with confidence and clarity. Knowledge is the key to successful investing, so stay informed and make wise choices to enhance the potential of your mutual fund investments.

FAQs:

Can a mutual fund with decreasing NAV, recover its value over time?

Yes, a mutual fund can recover their declining NAV over a period. If a fund’s holding performs well, its NAV is likely to increase with time. However, it should be noted that NAV of any asset fluctuates because of market conditions and changes in asset value.

Should I choose a Mutual Fund based on its NAV only?

No, NAV is just one of the many factors that you should consider when selecting a mutual fund. Factors such as investment objective, investment philosophy, expense ratio and fund managers experience should also be considered before choosing a fund.

Does an increasing NAV growing rate indicate the growth potential of a mutual fund?

The NAV growth rate does not directly indicate the growth potential of a mutual fund. The NAV can fluctuate based on various market conditions. To analyse the growth potential of a company, a lot of other factors such as investment philosophy must be considered.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views / opinions or as an investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.