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The Asset Management Company or AMC offers investors the opportunity to invest in a newly coming mutual fund scheme through the New Fund Offer. The mutual fund house offers units to the investors in return of investment for a new mutual fund scheme through the NFO.
NFOs are quite similar to Initial Public Offerings (IPO’s) of private companies where firms offer their shares to the public for the first time. However, while the funds raised through IPOs are used to expand the business, mutual fund houses use the money pooled from the subscribers in their NFOs to purchase stocks, bonds or other securities and construct a portfolio in line with the investment objectives of the fund.
AMC’s generally launch NFOs at Rs 10 per unit of the new mutual fund scheme. The NFOs are open for subscription only for a specified time where investors can subscribe to units of the new mutual fund scheme at the offer price of NAV 10. However, investors can purchase units of the NFO even after the NFO period at a price that is usually higher / lesser than the offer price according to market conditions.
NFOs are generally categorized as 2 types 1) open-ended funds 2) close-ended funds.
Open-ended funds:
Investors can buy or sell units of open-ended funds on any business day at the prevailing Net Asset Value (NAV) of the fund. The NAV represents the per-unit value of the fund and is determined by the performance of the underlying assets (such as stocks or bonds) within the fund's portfolio. Since these funds don’t have a set maturity date, they allow investors the flexibility to enter or exit the investment at any time based on the NAV, making them more liquid compared to closed-ended funds.
These funds offer ongoing opportunities for investment and redemption, providing ease and flexibility to investors without the limitations of a fixed number of units or a set exit date.
Close-ended funds:
The fund has a set maturity date, after which the investments are typically liquidated, and any profits or losses are distributed to investors. While the price of the fund’s shares is typically influenced by the Net Asset Value (NAV) — the total value of the assets held by the fund divided by the number of shares — the actual market price can fluctuate based on supply and demand. This means the price of the shares could be higher or lower than the NAV, depending on investor sentiment and market conditions.
In essence, a closed-ended fund "closes" after its initial offering period, locking in the number of shares. This structure provides the fund manager with greater flexibility to manage investments without the pressure of having to deal with regular inflows or outflows of capital, which is often seen in open-ended funds. It allows the fund manager to stay focused on long-term investment strategies.
Here’s an illustrative comparison between Open-Ended and Closed-Ended Funds:
Feature | Open-Ended Funds | Closed-Ended Funds |
---|---|---|
Number of Units | No limit; units are issued as investors join. | Fixed number of units are issued at the launch. |
Purchase & Redemption | Investors can buy/sell units directly from the fund at any time based on the NAV. | Investors can only buy/sell units through the stock exchange after the launch period. |
Trading | Units are not traded on the stock exchange. | Units are traded on the stock exchange like stocks. |
NAV Calculation | NAV is calculated daily based on the total value of the underlying assets. | NAV is also calculated, but trading price may differ based on supply and demand. |
Maturity Period | No fixed maturity date. Investors can hold units as long as desired. | Has a fixed maturity period after which the fund is liquidated. |
Liquidity | High liquidity since units can be bought/sold anytime during market hours. | Lower liquidity since units are traded on the stock exchange and subject to market demand. |
Fund Flexibility | Greater flexibility for fund managers to adjust the portfolio based on market conditions. | Limited flexibility due to the fixed number of units and no redemption options until maturity. |
Investment Strategy | Suitable for investors seeking regular investments and liquidity. | Suitable for investors willing to lock in their investment for a set period, with potential for higher returns based on market performance. |
Fees and Costs | May have slightly higher fees due to more frequent transactions and management. | Fees might be lower but could incur additional costs associated with buying/selling on the exchange. |
The working of an NFO is based on the process of raising funds for a new mutual fund scheme. Here's a step-by-step breakdown of how an NFO functions:
1. Fund Launch and Pricing
The AMC develops a new fund scheme with a defined investment strategy like equity, debt, or hybrid. During the initial NFO subscription period, units are sold at a fixed price, usually Rs. 10 per unit. This price is standardized and remains the same throughout the offer period so that no market fluctuations affect the unit price.
2. Subscription Period
The NFO is open for a specified period, usually 2 weeks. In this time, investors can purchase units of the scheme. The subscription form is available both online and offline, and investors can apply directly through the AMC's website, mutual fund platforms, or through registered brokers.
3. Allotment of Units
Post-end of subscription period, units are distributed amongst the investors in a proportionate basis depending on the total demand at hand during the offer period. If total demand happens to exceed the number of units available, the AMC may alter the subscription size or conduct an allotment lottery.
4. Post-NFO Trading
When the NFO period ends, the units are credited to investors' accounts. For open-ended funds, units can be traded or redeemed on the exchange at the NAV determined by the AMC. Units of closed-ended funds are usually listed on the exchange after a given lock-in period, supplying liquidity.
NFOs can be categorized according to the structure of the fund and investment strategy. These are some categories:
1. Equity-Based NFOs
Equity NFOs are mainly invested in stocks quoted in stock exchanges. These funds primarily aim for long-term capital appreciation. Equity funds are high-risk investment products, with a likelihood of high returns in the long term but highly vulnerable to market volatility. Popular investment strategies include large-cap, mid-cap, small-cap, and sectoral stocks.
Example: A technology stock or a pharmaceutical sector -focused fund
2. Debt-Based NFOs
The debt NFO will invest in the fixed income product, including the bond, debenture, and government security. This investment will be very safe, for conservatively invested individuals and for getting fixed income at periodical intervals. It will not create the situation of loss but is excellent in generating capital. Example: Corporate bond or short term government security based fund.
3. Hybrid NFO
Hybrid NFOs invest in a mix of equity and debt securities, offering a balanced approach to investing. These funds are suitable for investors who want to strike a balance between risk and return. The equity portion provides growth potential, while the debt portion offers stability and income.
Example: A fund that invests 60% in equities and 40% in bonds.
4. Thematic and Sectoral NFOs
Thematic and sectoral NFOs target specific sectors or themes like infrastructure, healthcare, or renewable energy. They invest in the companies that function in the targeted sector, and these companies aim to cash in on new trends.
Example: A green energy mutual fund which targets investing in the companies operating on solar power and wind energy.
Investing in an NFO presents several strategic advantages for savvy investors looking to diversify their portfolios and tap into new opportunities:
1. Early Exposure to New Investment Opportunities
NFOs provide a chance for early-stage investment, often before the fund has been fully recognized by the market. Early investment allows you to capitalize on growth potential when the fund is still in its infancy.
2. Lower Entry Price
Most NFOs charge a fixed entry price, often Rs. 10 per unit, making them an affordable gateway for new investors. The cost of entry, therefore, does not change over the offer period, allowing an investor to calculate exactly how much she will pay.
3. Diversification Across Asset Classes
NFOs can help investors diversify their portfolios by introducing them to new asset classes, sectors, or geographic regions. Thematic NFOs, for instance, offer targeted exposure to specific industries such as technology, pharmaceuticals, or agriculture.
4. Capital Appreciation Potential
NFOs—equity-based NFOs, in particular—can provide capital appreciation, which is contingent on the market conditions and the investment strategy of the fund. Early investors may be able to take advantage of the growth trajectory of the underlying assets of the fund.
5. Tax Effectiveness
Some equity-based NFOs also qualify for benefits of long term capital gains which can be effective in tax-saving for investors in the eyes. Hybrid and debt NFOs also offer the stability of regular income generation and usually lower taxes through their fixed incomes.
Investing in a New Fund Offer (NFO) can be a compelling opportunity for those looking to capitalize on innovative strategies and emerging market trends. NFOs often introduce fresh investment themes, such as exposure to new asset classes, indices, or commodities, which may not be available in existing funds. They offer the chance for diversification, allowing investors to spread their portfolio across different sectors or strategies. Additionally, NFOs are typically priced attractively at ₹10 per unit during the initial subscription period, providing early investors with an opportunity to secure units at a lower price before the NAV increases. Closed-ended NFOs, with their lock-in periods, can also provide stability by reducing emotional decision-making during market volatility.
However, investing in NFOs comes with its own set of risks. Since NFOs have no past performance history, it can be difficult to predict how they will perform, making them riskier compared to established funds. Furthermore, the lack of liquidity, particularly for closed-ended NFOs with lock-in periods, could be a concern for investors needing quick access to their funds. Additionally, investors should carefully review the Scheme Information Document (SID) to understand the fund’s objectives, risks, and costs, including the expense ratio, to ensure that the NFO aligns with their financial goals. As with any investment, thorough research and consideration of the fund's strategy and risk factors are essential before committing capital.
NFO investments have a great deal of risks associated with it, and here are some details about them:
1. No Prior Performance
Since NFOs are new schemes, there is no track record to gauge their performance. This makes it difficult for investors to judge whether the fund's strategy will deliver the desired results.
2. Market Risk
Equity NFOs are very sensitive to market volatility. Stock market corrections or economic slowdowns may impact the performance of the fund, thus resulting in losses.
3. Liquidity Risk
For closed-ended funds, the liquidity risk is faced by the investors. Such funds are not easily traded or sold in the market, especially when there is low demand. Even open-ended funds may face redemption issues during extreme market conditions.
4. Sector-Specific Risks
Thematic or sectoral NFOs can be highly volatile. Sector concentration exposes investors to the risk of underperformance if the targeted sector faces challenges, such as regulatory changes or technological disruptions.
When deciding whether to invest in an NFO, investors should consider the following factors:
1. Fund Strategy and Asset Allocation
The fund’s investment strategy should align with your financial goals and risk tolerance. Asset allocation is key—understand how the fund divides its investments between equity, debt, and other asset classes.
2. Fund Manager’s Expertise
Evaluate the experience and track record of the fund manager with other mutual funds. A good fund manager with a proven history of generating alpha is a critical factor in your decision.
3. Expense Ratio
The expense ratio is the annual fee charged by the AMC to manage the fund. A lower expense ratio translates into higher net returns for investors. Compare the expense ratios of similar funds to assess value.
4. AMC Reputation and History
This strong AMC with excellent reputation in management of mutual fund offers a greater security and can be trusted, because established ones have proven skills to manage money and risks.
5. Risk - Return Profile:
Expect appropriate returns based upon the risk reward profile of fund. If an investment promises excellent results but with massive risks, assure it fits one's investment theme.
Invest in NFOs through the online or offline route as per your convenience:
Offline route :
Online Route :
Download the BLACK app on Google PlayStore to invest in NFOs.
Check the expense ratio : The expense ratio is the annual fee that the fund charges to manage your investment. It’s important to check if the expense ratio is reasonable or if it’s higher than what the Securities and Exchange Board of India (SEBI) allows. A higher expense ratio means you’ll be paying more in management fees, which could reduce your overall returns. Where AMCs spend a lot of money on advertising and marketing campaigns for their NFOs. It may result in a higher expense ratio which is the cost of managing the fund compared to the existing mutual fund schemes. Moreover, investing in a mutual fund scheme with a higher expense ratio would reduce return over initially.
No track record : AMCs pool funds from subscribers to buy stocks, bonds, or other securities in line with the fund’s investment mandate through their NFOs. It means the AMC constructs the portfolio after the NFO period, and you don’t have a track record of measuring the performance of the new mutual fund scheme launched through the NFO.
Experts recommend investing in equity funds only after studying their performance over a few market cycles against peers and the benchmark. It is better to settle for an existing mutual fund with the same investment mandate and a track record of performance over some time rather than risk your money in a new mutual fund scheme.
NFO is not cheap at Rs 10 : Many people believe NFOs are a bargain investment as they are launched at a NAV or price of Rs 10. However, the returns delivered by an existing mutual fund and the new scheme launched through NFO would depend on the performance of stocks in their holdings over time.
The NFO is not cheap because it was launched for Rs 10. The AMC has yet to build the portfolio of the new mutual scheme, and you don’t have a track record of measuring the fund’s performance. It helps to optimise for an existing mutual fund scheme that has done well against the benchmark and peers and has a lower expense ratio as it is already a proven performer over time.
Invest in the NFOs only after doing the research. It helps to look through the Scheme Information Document (SID), which displays the investment strategy, fund manager profile, asset allocation pattern and benchmark index. Check the statement of additional benefits (SAI), which shows you extra information about the AMC.
It helps to pay close attention to the investment thesis of the mutual fund scheme, which you get from the Scheme Information Document. Investors can gauge the investment objectives of the new mutual fund launched through the NFO. It also helps to study where the mutual fund plans to invest your money depending on the type of fund.
Look at the stock selection approach of the mutual fund before investing in an NFO of an equity mutual fund scheme. It helps you understand why the AMC has invested in the stock for its mutual fund scheme portfolio.
Invest in a unique theme:
You may invest in an NFO of a new mutual fund if it offers exposure to an investment your portfolio lacks. For instance, you could consider an NFO in index funds with exposure to foreign stock market indices if you want to add foreign stocks to your portfolio.
NFOs in close-ended mutual fund schemes benefit from flexibility as investors cannot exit easily post the NFO period. The fund manager can hold on to funds even if the stock market crashes, thereby aiding better investment decision making. However, open-ended mutual fund schemes are impacted by large inflows or outflows from the fund, especially during extreme volatility in the stock market.