4 key factors to consider before investing in NFOs

2021 witnessed a spate of New Fund Offers (NFOs) launched by mutual fund houses to raise capital. Riding on the back of a sharp market rally and rising interest from retail investors, asset management companies (AMCs) launched 140 NFOs last year, raising capital to the tune of close to ₹1 lakh crore.

Investing in NFOs allows you to get exposure to a new asset class at a relatively cost-effective price point. However, does that translate into investing in all of them? Definitely not. You need to be mindful of certain aspects before investing in an NFO to ensure it doesn’t become a cause for concern. What are they? Let’s find out.

1. Don’t confuse NFOs with IPOs

Most investors make the cardinal mistake of confusing NFOs with Initial Public Offerings (IPOs). While the primary objective of both is to raise money from markets, the NFO price is generally close to the fund’s fair value. This is because the NFO is yet to invest in any stock. The NFO simply accumulates money from investors prior to commencing the investing process.

On the other hand, the IPO price is more or less than the company’s fair value. Entities, on most occasions, offer shares at a premium as future business strategies and plans can be assessed with a degree of certainty.

2. Thoroughly analyse the new scheme

Don’t rush to pour your money into an NFO just because the units are available at a cheap price. It’s a prevalent misconception that investing in an NFO at a lower NAV is a profitable bet. It’s not. You must thoroughly analyse the scheme before rushing to invest money. It’s the growth rate of the NAV that matters rather than its value.

The growth of the funds depends largely on the quality of financial instruments that they have invested in. Hence, there’s no basis for investing in an NFO with a lower NAV.

3. Read the draft prospectus

One of the most overlooked aspects of investing in an NFO is its draft prospectus. It doesn’t get the attention it deserves. The prospectus has crucial information on the fund’s investment objective, expenses, and associated risks. It also contains the investment policy of the new fund and the types of sectors and stocks it would invest in.

The draft prospectus will also help you identify crucial scheme-specific factors such as concentration risk where investment is limited in a particular sector or stocks of certain market capitalisation such as mid and small caps.

4. Consider the expenses and the AMC’s history

Expenses associated with an NFO can eat away a significant portion of returns and must be evaluated carefully. If you find adverse variations in the estimated expenses of the scheme and actual expenses of similar NFOs in the past, make sure there’s a clear explanation for this.

Equally essential is to analyse the history of the AMC launching the NFO and that of the fund manager. Check the kind of funds they are managing and their returns generated. As NFOs are new offerings, you can’t undertake quantitative analysis. Hence, thorough research is an absolute must to keep risky bets at bay.

Rahul Jain is President & Head- Personal Wealth, Edelweiss Wealth Management

Disclaimer: The views and recommendations made above are those of individual analysts or broking companies, and not of MintGenie.