But the price is too high!

There are numerous misconceptions in the market regarding the NAV or Net Asset Value prices of Unit Trust Funds. Let us identify and help you walk through four of the most infamous myths.

Two Funds – A and B, have the same investment strategy, being invested in the Asean region and focus on dividend-yielding stocks.

However, Fund A is currently priced at RM0.50 while Fund B trades at RM1. You are ready to invest RM10,000 into one of these Funds. Should you go for the one with the cheaper price?

Firstly, let us analyse how this price or NAV is calculated. The NAV is the market value of the Unit Trust Fund’s total assets (this includes the stock, bond and cash holdings that the Fund holds, in short, all its underlying investments) minus the liabilities and expenses in running the fund (operating expenses, management and trustee fees etc) before being divided by the total number of units in circulation.

The NAV is typically calculated, based on the closing prices of the Fund’s underlying investments at the end of the day. This NAV determines the price at which you buy or sell the units at.

Going back to the example earlier, Fund A could be priced lower if there are simply more units in circulation compared with Fund B.

Hence, in this regard, comparing between a lower or higher NAV price is largely irrelevant. Any future performance depends on the investment strategy and the fund’s holdings rather than the NAV price that the Fund is trading at.

After going through the prospectus and analysing the income distribution history of this one particular Unit Trust Fund, you notice that it usually comes up with a distribution once a year and usually at the end of every year.

“It’s now the beginning of December, perhaps if I wait another three weeks, once the distribution is declared, price will come down and I will get even more units as a result”, you thought to yourself. Is that really the case?

An income distribution has zero net effect on your investments. Price has indeed gone down but you receive more units as a result.

It would not make a difference if you had invested a day before or a day after an income distribution, as the size of the pie remains the same. Again, the major determinant of the Fund’s performance lies with its underlying investments.

Fund prices are correlated to its index.

This is another common misconception if the Unit Trust Fund is an actively managed fund; as opposed to a passive index tracking fund. Even though the active Fund might employ an index as its benchmark, it does not mean that both will have correlative movements.

For example, an Equity Fund investing in Malaysia may utilise the country’s benchmark index as a means for performance comparison. However, there could be instances where the Fund may gain even though the index is suffering losses or vice versa. This is down to the investment strategy of the Fund.

A quick look of Malaysia’s index tells us that certain sectors carry heavier weights than others such as the banking and plantation sectors. In other words, if these two sectors are having a bad day, it is likely that they will drag the index down lower as well.

On the other hand, if the investment managers for the Fund have managed to avoid these sectors altogether and have instead, been focusing on other sectors that have been performing better, their performance will diverge from that of the index.

It is a mistake to view Unit Trust Funds similarly as stocks or shares.

For a listed company on the stock exchange, one of the major determinants of its price movement lie with the company’s earnings growth. Other individual characteristics such as the stock’s liquidity, fundamental factors play their part as well.

For a stock’s price to have increased by 30 per cent, investors would have taken into account future earnings potential.

In order to sustain the continuous good run however, the company should embark on a few strategies whether by capacity expansion, targeting new markets or raising prices for its product. Else, either the stock’s price might simply stay at current levels or drop off when the operating environment is no longer favourable to that particular company.

For a Unit Trust Fund, the manager will invest in a basket of listed stocks; between 30 and 40 stocks for sufficient diversification.

Hence, performance of the Fund does not just depend on any single individual stock.

This means that even though the Fund may have achieved a 30% return this year, there is a possibility that it may repeat the performance next year, provided the right calls can be made again. In other words, where the 30 per cent returns were driven by the first set of underlying stocks, the next 30 per cent could come from the next set of investments once the manager has taken profit off the first set of investments, for example.

Conclusion

Instead of simply looking at the Fund’s NAV or other factors which may revolve around the NAV, we would suggest that investors analyse other crucial factors such as Sharpe ratios and the Fund’s performance track record compared to other similar funds as well as its ability to beat its benchmark before making their investment decisions.

Areca Capital is a niche Malaysian fund management company. We are a firm believer in the advisory-based approach towards investing.

We help our clients, who range from individuals to corporates, family and private trusts, foundations and other institution to achieve consistent risk- adjusted returns over the long term. For any enquiries, you may contact us at 0379563111 or by email: invest@ arecacapital.com.