Mutual funds are an excellent investment option. But do you know about NFO? Read more to find out.
What is NFO?
The full form of NFO is New Fund Offer. When an asset management company (AMC) introduces/offers a new scheme in the market, it is called as a New Fund Offer. A new fund is offered to help the asset management company raise capital for buying securities. As an investor, you can subscribe to a New Fund Offer only within a specific time frame. An NFO is only functional on first-come-first serve basis.
When an NFO is launched, investors can only purchase the mutual fund scheme at an offer price during the NFO period. The standard price is Rs. 10 per unit for the mutual fund scheme launched under the NFO. The units are available for purchase at an offer prevailing at a specific point in time. Many investors consider an NFO to be similar to an IPO (Initial Public Offering). But this is not true as there are multiple differences between an NFO and IPO.
Difference between IPO and NFO
The most important difference between an IPO and NFO is that the former is the sale of a company’s shares before listing on the stock market. On the other hand, the latter is an offer of a mutual fund scheme’s units. An IPO’s structure contains detailed information about the company’s financials, its business, its competition, its prospects, what the money is being raised for, what it will be used for and so on. You are fully made aware of the company’s track record, historical performance over the years, profitability and losses. This helps an investor to understand if the stock price is worth the investment.
The price of shares in an IPO can be priced above or beyond the stock’s real value. The price of a mutual fund scheme depends on the market value of the unit. It is known as NAV or Net Asset Value.
Types of NFO
There are two types of NFO:
Close Ended Funds: A close ended fund is a type of mutual fund which does not permit the entry or exit of investors post the NFO stage (until its maturity). The time period is usually 3-4 years since the inception of the fund. Also, the liquidity of such funds on the stock market is low.
Open Ended Funds: An open ended fund is a type of mutual fund which you can buy/sell without any restrictions. Investors can enter and exit the fund at any given time post the launch.
Benefits of NFO
The benefits of investing in an NFO are:
- Strategy: Every fund is derived from an investment strategy. Close ended funds offer the opportunity to invest in innovative strategies that existing open end funds do not. Also, close ended funds try to protect downside using put options.
- Flexibility: Close ended funds are highly flexible when it comes to investing your money. A mutual fund is managed by a fund manager. A fund manager helps in obtaining maximum returns. Also, even if the investment timing is bad and the fund is launched in unfavourable market conditions, the fund manager has the flexibility to revise the portfolio.
- Outflow vs Inflow: An open ended fund is subject to large outflows and inflows. In case of a loss or sudden outflow, the fund will lose value and the fund manager will be forced to sell the units. This is not the case with close ended funds. Close ended funds are locked-in for the tenure of the fund. In this lock-in period, the fund manager can monitor and select stocks accordingly.
- Lock-in Period: Many investors remain invested in a mutual fund for only 1 year or more. This eliminates their returns. A close ended fund comes with a lock-in period. The lock-in period (3-4 years) generates good returns and prevents investors from falling prey to bad investing behaviour.
How to invest in NFO?
You can invest in an NFO by creating an account with the respective mutual fund house. Once the account is created, it will be activated via mandatory KYC. Post activation, you will be able to make transactions via SIP or lump sum. You should consider the following points before purchasing an NFO:
Ensure that the mutual fund house/asset management company has a history of selling best performing mutual funds. Do a complete background check on the mutual fund house.
Get a basic understanding of the fund. Asset allocation, NAV, risk involvement, returns expected, etc., are some of the basic details of an NFO.
NFOs are released into a market without any previous track/performance record.
Keep yourself updated about the fund manager. It is important to know what the fund manager is planning to do with the money.
Read the offer document carefully. This document contains information regarding the investment process.
Invest only on the basis that the fund will generate good returns.
Select the fund on the basis of minimum subscription amount. This amount varies from Rs. 500 to Rs. 5000.
Check the lock-in period. Many NFOs come with a lock-in period of 3-5 years.
Is NFO cheap?
Although NFOs are priced at Rs. 10, they are not completely cheap. Since an NFO has no securities, it is priced at Rs. 10 for accounting purposes. The fund’s NAV changes when the money is deployed. The absolute NAV does not matter (even if Rs. 100 or more, your investment is still worth the same). Example, if you invest Rs. 1000 in an NFO, you will receive 100 units. After a time period, the portfolio rose 10% and hence the NAV became Rs. 11. At this stage, your investment will be worth Rs. 1100 (at a 10% absolute gain). If the NAV was fixed (Rs. 100/10 units), the 10% gain in portfolio will take the NAV to Rs. 110. At this stage, your investment is still worth Rs. 1100.
So if you are looking to invest in an NFO, make sure it meets your risk appetite. Happy investing!
Recommended Read: Is Shifting to Direct Mutual Fund Plans a Good Decision?