Magazine Expert Advice A N Shanbagh

also gives good results
A.N. Shanbhag	It is a common misconception that a low NAV mutual fund scheme is a better buy. In fact, NAV at par is as good as a higher NAV. But NAV is not the only factor to be considered while choosing a scheme
About a year ago I had received a letter from one of my readers, Mr. Dastur, who harshly asked me why I was recommending investments in mutual fund schemes which have a high NAV while there are many others available at par value of Rs 10. Many readers might have the same question in their minds. To quell such doubts is the raison d’etre of this article. I firmly believe that the welfare of the economy of any country lies not in the hands of so-called experts in the government, but evolves from the insight, the retail investor has in what is good or bad for him. The Indian economy is languishing even after five decades of Independence only because of the arbitrariness and lackadaisical approach of the retail investor to his own finances. Mr. Dastur’s is a classic case. In fact, his was not the only letter I have received on the subject. The situation has reached epidemic proportion. What annoys me is that many MFs are taking advantage of this diagnostic confusion among the investors related to high/low NAVs. When they launch new schemes, one of the unique selling features promoted aggressively is that the units are at par! This piece is to clear the mis-conception of all those, particularly the retail investors, who feel that a low NAV, preferably at par, is better than the fund with a high NAV.
Percent gain
You will agree that returns would manifest based on what happens in the future. You cannot in any way influence the past. And that is the key. Future. Assuming equal competence on part of the fund managers, the percentage increase in the NAVs (no matter what they are) should be the same. If the market value of the portfolio increases by 50 per cent, the Rs 10 NAV would rule at Rs 15 and Rs 40 NAV will hit Rs 60. One must see the percentage gain rather than the absolute numbers.
Past records
In fact, the fund manager of an already performing scheme has the additional selling point of demonstrated competence on his side. Though the offer documents of all the MFs have the statutory warning that past performance is no guarantee of future returns, astute investors know that ignoring history in the financial markets is akin to committing suicide. Skeptics point out that the portfolio of a high-NAV scheme could be fully valued. Stocks comprising the portfolio would have limited upside from here onwards. Again, one should consider the fact that MF portfolios are not static but dynamic in nature. With increasing globalisation, information dissemination and the consequent volatility, gone are the days when one could just buy a stock and sleep over it. Speed, agility and proactiveness are the qualities required of a fund manager today. That there is a constant churning and fine-tuning of portfolios commensurate with the requirements of the hour is amply demonstrated if one studies the quarterly, or even the monthly fact sheets brought out by the MFs.
Comparison of data
Thanks to insistence on transparency by SEBI, most of the MFs send their quarterly reports to all their investors. A few smart ones do it on a monthly basis. These reports throw up some really interesting insights into the performance of the fund. This helps in comparing the inter-fund performance and more importantly, the investor can judge the future of the scheme on the basis of its current portfolio. The data supplied by the fact sheets facilitates the investor to take any shift decisions, if necessary. But all this data-based decision-making is possible only for existing schemes. Schemes with NAV at par have no data! It is impossible to assess the capitalised value of expected excess earning power. And therefore, the associated risk! Yet another concern voiced by investors is that high NAV pushes the dividend yield down. This is indeed true on paper, but not in actual practice. Here again, investors should judge the return on their investment on a total outflow-inflow basis. Dividend is just one of the components of inflow, the other being (appreciated) capital. Dividend is paid out of the NAV, the undistributed surplus forms a part of the capital. Since MF is a trust, the capital reflected the by the NAV, also belongs to the investors.
Reinvestment? No!
I do not like the dividend reinvestment option. Some analysts claim that fiscally it works best in case of equity funds. Every time a dividend is declared and reinvested, the investors gets fresh units against the amount at the then existing NAV. There is no tax incidence as dividends from schemes having over 50% equity exposure are tax-free. Eventually, when the investment is sold, the capital gains would be lower than what they would have been on the same amount, had the growth option been chosen. All this is true. A regular dividend-paying scheme is essentially cast in the same mould and gives identical advantage. There is an added flexibility of the option to reinvest the dividend in the same scheme or take the dividend to greener pastures. I do not like compulsions of any kind. There is yet another adverse fallout resulting from the investors’ aversion for high NAV schemes. As such, schemes do not sell, MFs are forced to dole out heavy dividends and bonus just to lower the NAVs and make them look artificially attractive to the investors. Post dividend, the NAV will fall to the extent of the dividend. Bonus, of course, results in increasing the number of units, thus lowering the NAV. However, the net wealth of the investor remains the same. On the contrary, the cost of the additional paper work can push the NAV down, and may have adverse effect on potency of the portfolio arising out of the ‘sell’ only to fund the dividend. MFs, too, are aware of the folly of such actions but indulge in this unscrupulous practice to attract uninformed investors into their fold, away from the competitors. The investor should keep a respectable distance from such MFs. More often than not, a high NAV scheme may prove a better buy. But the investors must consider all the above mentioned factors before choosing a scheme instead of just the NAV number. Optimise returns by avoiding these small pitfalls. After all, our purpose is to emerge as an Asian tiger economy.
Skeptics point out that the portfolio of a high-NAV scheme could be fully valued. Stocks comprising the portfolio would have limited upside from here onwards. Again, one should consider the fact that MF portfolios are not static but dynamic in nature.