What is a fund's net asset value (NAV)? In very simple terms, NAV is the mutual fund's assets minus its liabilities. Michelle Smith and the Mutual Fund Education Alliance have this definition for Net Asset...
Michelle Smith and the Mutual Fund Education Alliance have this definition for Net Asset Value or NAV, "The current market worth of a mutual fund share. Calculated daily by taking the funds total assets: securities, cash and any accrued earnings, deducting liabilities, and dividing the remainder by the number of shares outstanding." In very simple terms, it is the mutual fund's assets minus its liabilities.
The net asset value (NAV) is important to potential and current investors. In order to get the price per unit of the fund, you need the NAV for the calculation. For example, if a particular fund had assets totaling $60 million and liabilities of $10 million that would make the net asset value $50 million. Therefore, if the fund had five million outstanding shares, you divide the NAV by the outstanding shares. That gives a price-per-share of $10.
An asset is a resource that has economic value to the owner. Some items that are owned can usually be converted to cash. If you are reading a balance sheet, you total the liabilities, common stock, preferred stock and retained earnings. Assets have categories as well, like current, long-term, intangible, prepaid and deferred. A liability is a company's legal debts and/or obligations that occur as part of doing business. They are legally binding on the company or owner. Liabilities are usually current, meaning that are payable within the year, or long-term, meaning they will be settled over a longer time.
A new investor might mistake the net asset value for the stock price, but they are not the same. Stock prices will change throughout the entire trading period. The NAV is only calculated once each day when trading is over. When you purchase shares in a mutual fund, you are buying shares at the net asset value at the end of the trading day. Mutual funds have another benefit; they will sell fractional shares, so you buy as many shares as you have money to invest.
With the net asset value of a mutual fund being fixed to the current value of the fund's holding, you cannot judge what a fair price is. With the stock price, you can compare the price with earnings or other information to determine if it would be a good purchase. A company issues a certain number of shares and that is all that can be bought or sold, unless it issues new ones or buys back old ones. Mutual funds usually have no limit on the number of shares. The increase or decrease in share numbers does not change the NAV because the numbers move in equal proportions.
To gauge how well a mutual fund is doing, you have to examine the total return. You cannot use the net asset value because any income distribution or gains made as dividends will lower the NAV. Some investors forget to calculate in the distributions made by the fund and will underestimate it in return. Laws force mutual funds to distribute 90% of their capital gains and dividend income on a yearly basis. This will force the NAV lower and may scare an investor who does not realize he has not lost any money.
