|Course 102: Mutual Funds and NAVs|
|So Alike but So Very Different|
NAVs and stock prices differ in five important ways.
Difference One. Stock prices change throughout the trading day, but mutual fund NAVs are calculated only once each day, based on the value of their stocks or bonds at the time the market closes. When you purchase a mutual fund, you buy shares at the NAV as of that day's close. As a result, you don't necessarily know the exact NAV of the fund at the time you put in your order to buy or sell. If you place an order early in a given day, you're likely to get that day's closing price for the fund. If you make your order later in the day or after trading has ended, you'll get the following day's closing price.
Difference Two. Stock investors typically specify how many shares they'd like to buy, and buy shares of a given stock in even lots, such as 50 shares of Coca-Cola or 100 shares of Microsoft. By contrast, most fund investors purchase funds in dollar amounts rather than share amounts. As we noted in Lesson 101, fund companies willingly issue fractional shares. For example, if you have $1,250 that you'd like to put into a fund with an NAV of $14, you'll get exactly 89.286 shares.
Difference Three. Stocks have a fixed number of shares available. To change its number of shares, a company can either issue new shares or buy back its own shares in the market. By contrast, mutual funds generally have an unlimited number of shares, and the number changes on a daily basis, depending on how many shares investors buy and sell that day.
Difference Four. You can determine whether a stock is a bargain or not by its current price relative to a "fair value" price, based on such information as earnings estimates or cash flows. (This process is known as "valuing" a stock.) With mutual funds, however, NAV is tied to the current value of the fund's underlying holdings. Calculating a fair price for an entire mutual fund's portfolio, while theoretically possible, would be a cumbersome process, particularly when you consider that many funds hold well more than 100 stocks or bonds.
Difference Five. You can often use changes in a stock's price to gauge how well a stock is performing. Mutual funds, however, distribute any income or capital gains they realize to shareholders as dividends, which, in turn, causes their NAVs to fluctuate. Unless you account for such distributions, you could be underestimating a fund's actual performance by looking solely at its NAV. To accurately gauge a fund's performance, you need to examine its total return, which takes into account both the appreciation of the fund's holdings as well as any distributions the fund has paid out. (We'll explore this topic in our next lesson.)
Uses of NAV >>
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