Topic 2: Get the Basics Right
Understanding NAVs and dividends is a basic requirement for making the right mutual fund investments, says Dhirendra Kumar
The basic terminology of mutual funds may confuse some investors. Therefore, it's best for investors to make a little effort to understand what's going on, rather than making bad decisions later.
The first thing that a new investor learns about funds is that you buy a fund in `units' and the price of each unit is called the NAV. This is the first pitfall. While buying anything else, we always prefer lower prices. So, you are primed to think a fund with a lower NAV is better, since it's cheaper.
This idea is wrong. High or low fund NAV is a completely irrelevant characteristic. There's no reason to decide whether or not to invest in a fund based on it. What matters is what a mutual fund invests in and how the fund manager runs it. A fund with an NAV of Rs. 10, and another with an NAV of Rs. 100 will generate the same returns if their portfolios are the same. The actual NAV and number of units you own are irrelevant. If a fund gains 20%, the Rs. 1 lakh you invested in it is going to grow to Rs. 1.2 lakh. This could be 10,000 units at an NAV of Rs. 12, or 100 units at an NAV of Rs. 1,200, it makes no difference. The only use of the NAV of a mutual fund is to compare it to its own earlier NAV. This is how the returns generated by a fund are calculated. Comparing the NAV of one fund to another can lead you to make random investing decisions.
Then there are dividends. All mutual fund schemes have dividend options and non-dividend options. The former is convenient if you want to withdraw from the fund regularly.
Source: LiveMint
The basic terminology of mutual funds may confuse some investors. Therefore, it's best for investors to make a little effort to understand what's going on, rather than making bad decisions later.
The first thing that a new investor learns about funds is that you buy a fund in `units' and the price of each unit is called the NAV. This is the first pitfall. While buying anything else, we always prefer lower prices. So, you are primed to think a fund with a lower NAV is better, since it's cheaper.
This idea is wrong. High or low fund NAV is a completely irrelevant characteristic. There's no reason to decide whether or not to invest in a fund based on it. What matters is what a mutual fund invests in and how the fund manager runs it. A fund with an NAV of Rs. 10, and another with an NAV of Rs. 100 will generate the same returns if their portfolios are the same. The actual NAV and number of units you own are irrelevant. If a fund gains 20%, the Rs. 1 lakh you invested in it is going to grow to Rs. 1.2 lakh. This could be 10,000 units at an NAV of Rs. 12, or 100 units at an NAV of Rs. 1,200, it makes no difference. The only use of the NAV of a mutual fund is to compare it to its own earlier NAV. This is how the returns generated by a fund are calculated. Comparing the NAV of one fund to another can lead you to make random investing decisions.
Then there are dividends. All mutual fund schemes have dividend options and non-dividend options. The former is convenient if you want to withdraw from the fund regularly.
Source: LiveMint