As a new investment decision-maker, you may see the term net asset value (NAV) next to your favorite mutual fund when buying or selling shares. Mutual funds use the net asset value to represent the price per unit – per share – of owning a share in the fund.
The net asset value, along with any dividends you receive from your investment, affects the overall return on your portfolio in the long term. Exchange-traded funds (ETFs) also use the net asset value to determine the price of their shares.
Key Takeaways
Mutual funds are considered pooled investments, and the net asset value measures the total value of all investments aggregated in the fund. The net asset value is recalculated once a day, and any trade orders placed during the previous day will be executed at the price set by the new net asset value. The net asset value is not related to the financial health of the underlying investments in the mutual fund.
How Mutual Funds are Structured
Mutual funds and exchange-traded funds (ETFs) are types of pooled money. This means that the fund manager will gather all individual investments and then invest that money into other assets.
The assets in which a mutual fund invests will align with the stated goal of that specific fund. These goals can include tracking an index like the S&P 500, representing a sector or industry of the overall market, or targeting a specific retirement year.
All of these different assets impact the share price of the mutual fund. Stocks, bonds, and other securities held by mutual funds will trade as investments throughout the day, and their prices will fluctuate based on trading activity.
The net asset value (NAV) is the net value or book value – calculated as assets minus any liabilities – of the mutual fund based on the closing balances of the underlying investments held by the fund owners.
Using Net Asset Value to Determine Share Price
Mutual funds must calculate their net asset value once per day, typically occurring after the close of U.S. markets. Buying and selling activity for mutual funds occurs once a day to protect investors from rapid market movements.
At 4:00 PM Eastern Time, the value of the mutual fund’s underlying positions is gathered by accounting firms based on the closing price of stock markets and other exchanges. This value is used to determine the value of all holdings in the mutual fund.
Any debts or liabilities of the mutual fund, such as short-sold shares, are subtracted to calculate the net asset value. Stock exchanges then update the mutual fund’s share price to reflect this new net asset value. Because the value of the fund’s assets and liabilities changes, along with the number of shares available, the net asset value also changes daily.
This net asset value is the price at which investors can buy or sell their shares at the end of each trading day.
Executing Buy and Sell Orders for Mutual Funds
Any orders you place to buy or sell shares of a mutual fund are aggregated and then settled at 4:00 PM Eastern Time.
For example, if you sell 1,000 shares of an index fund at 11:32 AM, you will not know the price you will receive for those shares or receive your money until 4:00 PM that day when the net asset value is calculated.
This is why you don’t see traditional mutual fund prices throughout the trading day. The net asset value is only determined at the end of the trading period.
The Difference Between the Net Asset Value of Mutual Funds and ETFs
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Unlike traditional mutual funds, exchange-traded funds trade throughout the day. As a result, the share price of an exchange-traded fund may be at a premium, par, or a discount to the net asset value. However, you won’t know that when executing the trade. This means you might pay more or less than the value of the underlying securities of the fund itself.
Note: Historically, closed-end funds have traded at discounts – in some cases, significant discounts – to net asset value.
What Net Asset Value Doesn’t Tell You
While net asset value is an important measure of a mutual fund’s worth, it doesn’t tell you everything you need to know about the fund’s performance, value, or potential position in your portfolio.
The net asset value doesn’t account for large unrealized capital gains that may have accumulated in an older mutual fund or index fund. It also cannot tell you whether the actual intrinsic value of the underlying assets is reasonable.
For instance, during the dot-com bubble, you could have bought a fund at net asset value and paid high price-to-earnings ratios for companies headed toward bankruptcy.
While net asset value is a key element for investors to understand when trading mutual funds, it is not a substitute for other information about the mutual fund. Before investing, check the reputation of the mutual fund, its performance, objectives, and long-term value to help you determine if it is suitable for your investment portfolio.
Source: https://www.thebalancemoney.com/what-is-the-net-asset-value-or-nav-of-a-mutual-fund-357949
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