What is the Meaning of NAV?

NAV stands for Net Asset Value. But the meaning of NAV and its significance goes far beyond this simple definition.

This term applies to mutual funds and ETFs and it can impact your investment decisions in a big way. That’s why it makes sense to take two minutes now to understand that concept. Lets’ get crack-a-lackin’.

What is NAV?

NAV – net asset value – is what you would receive if you took all the holdings of a mutual fund or ETF sold them at market value and then divided the proceeds up to all the shareholders of the fund. It’s also the price you receive for each share of the fund you sell. Let’s look at a simple example.

Let’s say that XYZ fund has 2 investments. They own 100 shares of Orange Stock and 200 shares of Banana Stock. On Day 1, Orange was selling for $10 a share and Banana was selling at $20 per share. As you can see, the total value of all the holdings of XYZ is $5000.

OK. Let’s say XYZ fund sold a total of 1000 shares to investors in the fund. In that case, the NAV on Day 1 is $5 per share. With me so far?

Now….the next day, the stock market screams. Orange goes up to $13 per share and Orange goes up to $22. The total value of all the holdings of XYZ fund is now worth $5700. Since the total number of shares of the fund hasn’t changed (still 1000) the NAV on day is $5.70. See how easy that is? You are a mutual fund master blaster!

Mutual funds publish their NAV at the end of each trading day. What they do is simply take all the holdings and calculate what they are worth had they sold those securities at the end of the business day just like we did together in the paragraph above. It takes them a few hours to run these calculations so typically you’ll only see the NAV (for mutual funds) published after 3:30 PM – PST.

How NAV Affects You

As you can see, NAV drives the performance of your funds. If NAV rises, the value of your shares in the fund goes up. If NAV drops that value declines too. If you own no-load funds, NAV is what you pay for shares when you buy them and the price you’ll get for the shares when you sell them.

If it’s a load fund (please never buy one of these because I will get depressed if you do) you have to add the sales load to the NAV in order to determine the price you’ll have to pay for the shares. This gets kind of complicated and since very few people buy loaded funds anymore, it’s not worth our time discussing it. Let’s move on.

NAV and ETFs

NAV is also a very important concept for ETF investors. While the definition is the same, it is actually a far more important consideration than with mutual funds because ETFs trade like stocks. Let me explain.

If you buy a very popular ETF that is very liquid, the shares will trade very close to the NAV. That’s because there are always tons of buyers and sellers of the ETF and that means it’s highly likely that the market will reflect the real value of the shares. Since NAV is the real value, you can expect the price of liquid ETFs to hover around the NAV.

But if you buy a thinly traded ETF* (one with very low daily trading volume) the price of the ETF may significantly deviate from the NAV because it lacks liquidity. If there are no sellers for an ETF and you want to buy shares, you may have to bid up your price to such a point that it exceeds the NAV. If you do that, you are paying more than those shares are really worth. This is one reason why you probably want to stay away from thinly traded ETFs.

Summary

As you can see, NAV isn’t all that complicated but it is important. Just remember that NAV is the number that reflects the real value of each of the shares you hold in a fund.

Are there other jargon terms that confuse you when it comes to mutual funds and ETFs? What are they?

*More information on thinly traded ETFs and closed end funds.