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Sunday, June 04, 2017

DO NOT BE MISLED BY FALSE IMPRESSIONS ABOUT MUTUAL FUNDS

DO NOT BE MISLED BY FALSE IMPRESSIONS ABOUT MUTUAL FUNDS

by Mr. Dhirendra Kumar, Valueresearchonline.com


The basic terminology of mutual funds is needlessly confusing, even misleading. Terms like NAV and dividend do not actually mean what a new investor would assume they mean. 

This is an unfortunate reality, one which is not going to change anytime soon.

Therefore, it's best for investors to make a little effort to understand what's going on, rather than making bad decisions later.

Practically speaking, 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, from shoes to cars, we always prefer lower prices. 

You are thus primed to accept the idea that a fund with a lower NAV is better because it's cheaper. 

It's possible--even likely--that the fund is being sold to you by a salesman who is actively pitching the lower NAV as a reason for you to buy the fund.

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. In fact, this idea is so thoroughly wrong that it can serve as a good indicator to identify a fund salesperson or `adviser' who is deliberately misleading you. 

Keep this in mind: anyone who is asking you to choose a fund simply because it has a low NAV is misguiding you. There are no exceptions to this rule.

What really 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 is not only useless, it can actually lead you to make random investing decisions.

Then there are dividends. The problem with mutual fund dividends is that they are not dividends at all. To the investor, the term `dividend' evokes the idea of corporate dividends, which are indicative of the profitability of a company, as well as a measure of how much of the profits are being distributed to shareholders.

 Mutual funds dividends, however, are nothing of the sort. They are just a withdrawal from your account. 

If the value of your investment in a mutual fund is Rs. 1 lakh, and the fund gives you dividends of Rs. 5,000, the value of that investment will be reduced to `95,000. There is no additional benefit at all. 

Getting a mutual fund dividend just means some of the money, which was yours anyway, was withdrawn and given to you. All mutual fund schemes have dividend options and non-dividend options. 

The dividend plan is convenient if you would like to withdraw money from the fund regularly. You don't get anything extra if you opt for it.

Just like low NAV, if someone tries to sell you a fund with the lure that it pays a lot of dividends, you can be sure that the salesperson is trying to misguide you. Avoid such people at all costs.

What is unfortunate is that both of these misconceptions are widespread, and yet the socalled investor education efforts of the fund industry never actively try to dispel them. Is this because using these misleading ideas are a good way to sell dud funds which have nothing else going for them? I suspect it is.


From ET 

About the author

by Mr. Dhirendra Kumar, Valueresearchonline.com

Founder and Chief Executive, Value Research


DO NOT BE MISLED BY FALSE IMPRESSIONS ABOUT MUTUAL FUNDS Reviewed by S. Chitra on June 04, 2017 Rating: 5 DO NOT BE MISLED BY FALSE IMPRESSIONS ABOUT MUTUAL FUNDS by Mr. Dhirendra Kumar, V alueresearchonline.com  The basic terminolo...

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