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With hundreds of mutual fund schemes already available, choosing the right one can feel confusing. Still, new fund offers continue to attract attention because they bring new ideas to the market. Some are concerned with new areas, and others with new forms of investment. Although such a notion is alluring, each NFO is associated with a degree of uncertainty because it lacks a history. This makes it significant to appreciate the workings of NFOs, the roles they may play, and whether they address a portfolio need or create noise.
Key Takeaways
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New Fund Offers give early access to fresh mutual fund schemes, but the offer price alone does not create an advantage without long-term performance.
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NFOs carry higher uncertainty since they lack a track record, making alignment with portfolio goals and risk tolerance essential.
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Open-ended and close-ended New Fund Offers differ in liquidity, exit flexibility, and investment horizon, which affects suitability.
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An NFO works best when it fills a genuine gap in strategy or exposure, rather than duplicating existing mutual fund holdings.
What is NFO or New Fund Offer?
An NFO is used to offer units in a mutual fund scheme to public investors for the first time. NFOs, other than ELSS can remain open for a maximum of 15 days. Allotment of units or amount refund is done within 5 business days of closure of the scheme. Further, open-ended schemes re-open for sale and re-purchase within 5 business days of the allotment. Three dates are relevant for the NFO of an open-ended scheme:
- NFO Open Date – This is the date from which investors can invest in the NFO
- NFO Close Date – This is the date upto which investors can invest in the NFO
- Scheme Re-Opening Date – This is the date from which the investors can offer their units for repurchase to the scheme (at the re-purchase price); or buy new units of the scheme (at the sale price, which is the NAV itself). The AMC announces Sale and Re-purchase prices from the Scheme's Re-Opening Date.
For Close-ended Schemes, there is only the NFO Open Date and NFO Close Date. They do not have a Scheme Reopening Date, because the scheme does not sell or re-purchase units. Investors will need to buy or sell units in the stock exchange(s) where the scheme is listed.
How Does an NFO Work?
The initial subscription of a mutual fund scheme is a new fund offer, which precedes the subsequent availability of the scheme to an investor. Investors have a fixed initial price at which they can purchase the units during this period. The fund house gathers money, divides it according to the declared goal and begins to manage the portfolio after the closing of the NFO. Once launched, the scheme operates as any other mutual fund, where it has a daily NAV price, and an option of buying or selling is ongoing based on how the scheme is organised.
Process of Investing in an NFO
In the case of new fund offers, the investors apply within a specific period that has been announced by the fund house. The offer price is used to invest, usually before the start of portfolio construction. Upon expiry of the offer period, the allotment of units is made, and the fund begins to deploy money as mandated. The updates of NAV occur after allotment. Subsequently, the scheme is treated as an already existing fund and further investment is effected at the current NAV and not the offer price.
Advantages and Disadvantages of Investing in NFOs
Advantages of Investing in NFOs
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Opportunity for Early Entry: NFOs represent the launch of a new mutual fund scheme. By investing during this initial phase, investors can get in at the ground level of a new opportunity or market segment. However, it is important to note that buying units at the standard initial price of ₹10 offers no mathematical advantage over buying units of an existing, proven fund at any other price (NAV). The true value of entry depends entirely on the fund's future performance.
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Experienced fund manager: Companies often launch NFOs with well-experienced fund managers. This inspires investors' confidence and attracts them to invest in the fund. However, even an experienced manager has no track record for that specific new scheme across various market cycles, which is a key risk factor.
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Investing in new strategies: Close-ended NFOs invest using new and innovative strategies not offered by existing open-ended funds, allowing investors to diversify their mutual fund portfolios. This access to new market segments is the primary legitimate advantage of an NFO. Additionally, NFOs are often launched to target specific investment strategies, nascent sectors (e.g., a specific international market or niche industry like green hydrogen), or themes that may not be readily available through existing mutual funds.
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Potential for Higher Returns: Since NFOs are launched with a specific investment objective or theme, they may offer the potential for higher returns if the underlying assets perform well. Early investors can capitalise on this potential growth.
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Possibility of Lower Expense Ratios: In the initial stages, NFOs sometimes offer introductory pricing, but generally, the possibility of persistently lower expense ratios compared to established funds is often a myth propagated by marketing materials. In reality, NFOs might have higher initial costs to cover launch and distribution. Investors should carefully check the Offer Document for the actual expense ratio, which might be competitive in the short term but may rise or remain higher than established, large-cap funds in the long term.
Disadvantages of Investing in NFO
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Lack of track record: Since these funds are new products, they have no real track record and are difficult to evaluate in the early days. The more unique an NFO, the higher the risk of investing in untested strategies.
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No benefit of early investment: NFOs are not IPOs. Investors in IPOs can benefit from early investments when the stock price increases. However, mutual fund NAVs don't increase or fall like stock prices. This is because mutual fund NAVs don’t change throughout the day like stock prices.
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Lower liquidity: NFOs usually have lower liquidity because they have fewer investors compared to established mutual funds. This may make it difficult for investors to exit their investments.
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Higher expense ratio: NFOs often carry higher expense ratios initially because the fund’s fixed marketing and administrative costs are spread across a smaller asset base. This higher cost directly reduces the fund's Net Asset Value (NAV), leading to lower net returns for early investors.
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Replication of an existing fund: Sometimes, NFOs may follow the same investment style and objective as an existing mutual fund offered by the company, which can result in duplication in the investor’s portfolio without offering any unique benefit.
Types of New Fund Offers
NFOs are primarily of two types: open-ended and closed-ended, defined by how they manage unit issuance and redemption.
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Open-ended: Open-ended funds have no fixed maturity date. Investors can buy or sell the units at any time at the prevailing market-linked NAV value. These are suitable for investors who want flexibility and liquidity.
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Close-ended: These funds issue a fixed number of units at inception during the NFO period only. They also have a fixed maturity date (typically 3 to 5 years). Investors cannot directly sell (redeem) the units back to the AMC until the scheme matures. Instead, these funds are mandatorily listed on a stock exchange where investors can attempt to buy or sell units during the lock-in period, though liquidity might be low. These funds are suitable for investors who want to invest for a fixed duration and are comfortable with limited liquidity before maturity.
Let's consider a hypothetical scenario with a similar structure but with an open-ended fund called Fund Y:
Scenario:
An Asset Management Company (AMC) launches Fund Y, an open-ended mutual fund with an initial NAV of ₹100 per unit. There is no fixed maturity date, and investors can buy or sell units at any time at the prevailing NAV. The fund has a total capital of ₹10,000, divided into 100 units.
Individual A decides to invest in Fund Y by purchasing 10 units at the initial NAV of ₹100 each. After a few months, the market experiences a positive phase, leading to an increase in the NAV of Fund Y to ₹120 per unit. Individual A decides to sell all their units in Fund Y at this higher NAV, capitalising on the positive market trend. Later on, Individual A decides to reinvest in Fund Y when the NAV drops to ₹110 per unit, purchasing 10 units.
At the end of the year, Individual A decides to redeem their units in Fund Y. The NAV remains at ₹100 per unit, consistent with the initial investment. However, since the fund generated a 15% annual return, Individual A receives a distribution of ₹15 per unit in addition to the redemption value.
Let's calculate the profit made by Individual A in this scenario:
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Selling 10 units at ₹120 per unit: ₹120 * 10 = ₹1,200
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Buying 10 units at ₹110 per unit: ₹110 * 10 = ₹1,100
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Redemption value at ₹100 per unit: ₹100 * 10 = ₹1,000
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Distribution received per unit: ₹15 * 10 = ₹150
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Total cash profit made by Individual A:
= (Selling - Buying) + Distribution
= (1,200 - 1,100) + 150
= ₹250
In an open-ended fund, Individual A had the flexibility to buy, sell, or redeem units at any time, subject to potential exit loads and capital gains tax, without the rigid restrictions of a closed-ended scheme.
Key Questions to Ask Before Buying Into a New Fund
There are a few questions you should ask when considering whether to invest in an NFO. For example, how long ywill ou will you be investing in this fund? What is the fund’s fee structure? What is the fund’s investment strategy? Additionally, here are some more points to consider before you invest in an NFO:
Reputation of the Fund House/AMC:
To ensure that your money is invested wisely, evaluate the performance of the fund house across market cycles and relative to its peers to determine whether it is a good investment.
Fund’s Objectives:
Examine all of the scheme-related documentation extensively to understand how the fund is invested and how the investment process works. Make sure your investment objectives align with those of the mutual fund to make it a worthwhile investment for your portfolio.
Risk Tolerance Levels:
Investing in NFOs is a risky venture because it does not allow you to conveniently evaluate the performance track record of existing funds. Prior to investing in NFOs, you should assess the risk level of the scheme and whether it is in line with your risk-taking capacity.
Investment Horizon:
When investing in NFOs, the investment horizon is critical, as some have lock-in periods during which you must remain invested for a specified duration. This implies you may not be able to withdraw your money before the maturity date, and you may be charged an exit fee. Look at these aspects carefully prior to investing in NFOs and ensure that your investments are consistent with your investment timeframe and objectives.
How To Invest in NFO?
Here is a step-by-step guide to investing in NFO through Angel One
Step 1: Log in to your Angel One app with your mobile number and validate with OTP. Next, enter the MPIN.
Note: If you don’t have an Angel One Demat account, you can open one quickly by completing the online account opening process.
Step 2: On the homepage, click on the Mutual Fund option.
Step 3: Now click on the “New Fund Offering (NFO)” option and select the NFO you want to invest in after checking the fund manager name, your investment horizon and other factors.
Step 4: Now, click on the “Invest Now” option.
Step 5: Select the SIP or One-Time option at your convenience. A one-time investment means you invest a lump sum amount, while SIP requires investing a fixed amount on a monthly basis. However, not all NFOs have both options.
Step 6: Finish your payment through UPI or net banking. After making the payment, your transaction will be executed.
Some Related Terms
Fund House:
The fund house or AMC is the fund's investment manager and carries out all the fund-related activities of the Mutual Fund, like the purchase and sale of securities in the portfolio of various Mutual Fund schemes launched by the Mutual Fund.
Investment Objective:
The investment objective outlines the financial objective the scheme intends to achieve and spells out the level of risk it is likely to assume while trying to achieve this objective.
Offer Document:
The document that contains the details of a particular mutual fund scheme offered to the public for investing is known as an Offer Document or Prospectus.
Open-ended Fund:
An Open-ended Mutual Fund is one which is launched once the NFO ends and allows you to enter and exit the fund anytime you wish to post-launch.
Summing Up
A New Fund Offer or NFO refers to the initial launch of a mutual fund scheme by an asset management company or AMC. NFOs are intended to raise capital for the fund and attract investors. However, they are marketed in a less aggressive manner than IPOs and are targeted towards certain select groups of investors. If you are looking to invest in an NFO, it is recommended that you do adequate research, such as checking the fund’s expense ratio and the performance of previous funds offered by the investment company.
