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March 12, 2013

Should you buy Mutual Funds Units at NFO?


When a Mutual Fund introduces a new scheme, it offers it in public to attract investors.  It issues New Fund Offer (NFO) and advertises the same in media with its objectives to make income for the scheme.  Usually units of new scheme are offered at face value of Rs.10/- each.  Face value is the price at which the units are sold or bought at the time of NFO.  So, Investors believe that it is cheap and rush to buy the scheme.  Its value may go up after the initial offer, provided that the scheme performs well.  Buying units after the NFO may decrease the number of units to be allocated if the value increases.

For Example: In an Open-Ended Scheme

If you have Rs.5000/- and buy units at the time of NFO when its value is Rs.10/-, you can get 500 units (Rs.5000 / 10).  At the same time, if the scheme doesn’t perform well, and if the value goes down to Rs.9/-, and you buy at that time you can get 555.556 Units.  Those who bought when it was Rs.10/- will lose the value of their units, say, it you’d bought the above said 500 units for Rs.5000/- and the value decreases to Rs.9/-, your investment value will reduce to Rs.4500/- (500 units X Rs.9/-)

If you buy an existing scheme and its value, say, Rs.15/- you will get 333.333 Units for the same amount of Rs.5000/- (divided by Rs.15/-).  Now, this scheme performs well and goes up to Rs.20/- your value of investments is Rs.6666.66 (333.333 units X Rs.20/-).

If you’d bought the units at the time of NFO and the value just got appreciated to Rs.12/- your value of investment would be just Rs.6000/-.

The following table may be helpful to understand the concept:

New Scheme (NFO)
Existing Scheme
Value at the time of Investment
Rs.10/-
Rs.15/-
Investment Amount
Rs.5000/-
Rs.5000/-
Units Allotted
500 Units
333.333 Units
Appreciation of NAV after 3 years
Rs.12/-
Rs.20/-
Value of Invested Amount
Rs.6000/- (500 units X Rs.12/-)
Rs.6666.66 (333.333 units x Rs.20/-)
Profit
Rs.1000/-
Rs.1666.66

So it doesn't matter much whether you buy units at NFO or later.  It all depends on if the Mutual Fund Scheme performs well.  You can buy units after seeing the performance of the scheme.   You have to monitor its performance for a number of years to come a conclusion of its performance. 


The above new scheme (NFO) may perform well and beat the existing scheme.  In that case you gain more profit than the existing scheme.


New Scheme (NFO)
Existing Scheme
Appreciation of NAV after 3 years
Rs.20/-
Rs.20/-
Value of Invested Amount
Rs.10000/- (500 units x Rs.20/-)
Rs.6666.66 (333.333 units x Rs.20/-)

It all depends on the performance of the Fund Manager and its team.  

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