NISM_VA_Ch_07_Net Asset Value_Total Expense Ratio_Pricing of Units

NISM VA Chapter 07 – Net Asset Value, Total Expense Ratio & Pricing Of Units July 13, 2022

Learning Objectives Learn About: • Fair Valuation Principles and relevance for investors • Computation of Net Assets of mutual fund scheme • Dividends & Distributable Reserves • Concept of Entry and Exit Load and its impact on NAV • Key accounting and reporting requirements applicable to mutual funds • NAV, Total expense ratio and pricing of units for the Segregated Portfolio

Fair Valuation Prices: SEBI Principle 1 Valuation shall Principle 2 AMC Board Principle 3 Consistent Principle 4 Independent be reflective to approve valuation with auditor to valuation of the methodolog methods to review valuation deal with policies, once realisable ies exceptional a year value of events securities Principle 5 Valuation Principle 6 Disclosure of Principle 7 Responsibility Principle 8 AMC to have approved of true and policies & policies should valuation fairness of address conflict valuation, procedures to polices to be correct NAV is of detect & of interest mentioned in prevent AMC wrong SAI valuation Principle 9 Documentation Principle 10 Debt & 3 of rationale for money valuation to be market preserved by securities to be compared AMC on public platforms

Valuation: SEBI Non-Traded securities other than money market & debt Traded securities other than money market & debt securities securities • Valued at last quoted closing price of the • If not traded in past 30 days then Valuation Of Gold & stock treat as ‘non-traded’ script Silver • Closing price at the exchange where • Shall be valued by AMC ‘in-good- • AM fixing price of London stock is principally traded Bullion Market Association in faith’ US$/troy ounce of 995 • Once the stock exchange is selected, any reason for change is to be recorded • AM fixing price of London Bullion Market Association in • Use another exchange’s value if stock is US$/troy ounce of 990 not traded on the selected exchange • Use previous days valuation if a stock is not traded on any stock exchange 4

Net Assets Of Scheme Particulars Amount (In Crores) • Investors have bought 20 crore Liabilities 200 units at Rs.10 each Unit Capital 3 Profits (8Cr - 4Cr - 1Cr) 14 • Thus mobilised Rs.200 crore Capital Appreciation (10% 0f 140Cr) • An amount of Rs.140 crore, Unit holder’s fund in the scheme 217 Expenses Payable 1 invested in equities, has appreciated by 10% Scheme Liabilities 218 • Balance amount of Rs.60 Assets crore was placed in bank 154 deposits Market Value of investments 64 • Interest and dividend received 218 by the scheme is Rs.8 crore Bank Deposits (60Cr + 8Cr - 4Cr) • Scheme expenses paid is 5 Rs.4 crore Scheme Assets • Further expense of Rs.1 crore is payable

Net Asset Value The summation of these three parameters gave us the Profitability Higher the appreciation in the investment portfolio, higher would Metric as being equal to: be the NAV Higher the interest, dividend Lower the • (A) + Interest income and capital gains, higher expenses, • (B) + Dividend income would be the NAV higher would • (C) + Realised capital gains be the NAV • (D) + Valuation gains • (E) – Realised capital losses • (F) – Valuation losses • (G) – Scheme expenses 6

Net Asset Value Calculation: Example 1 Value of stocks: Rs.150 crore Value of bonds: Rs.67 crore Value of money market instruments: Rs.2.36 crore Dividend accrued but not received: Rs.1.09 crore Interest accrued but not received: Rs.2.68 crore Fees payable: Rs.0.36 crore No. of outstanding units: Rs.1.90 crore NAV = (150 + 67 + 2.36 + 1.09 + 2.68 – 0.36) / 1.90 = 222.77 / 1.90 = Rs. 117.25 7

Net Asset Value Calculation: Example 2 Value of stocks: Rs.230 crore Value of money market instruments: Rs.5 crore Dividend accrued but not received: Rs.2.39 crore Amount payable on purchase of shares: Rs.7.5 crore Amount receivable on sale of shares: Rs.2.34 crore Fees payable: Rs.0.41 crore No. of outstanding units: Rs.2.65 crore NAV = (230 + 5 + 2.39 + 2.34 – 7.5 – 0.41) / 2.65 = 231.82 / 2.65 = Rs. 87.48 8

Mark To Market Why is this done? The process of valuing each security in the If investments are not marked investment portfolio of the scheme at its to market, then the investment market value is called ‘mark to market’ i.e. marking the securities to their market portfolio will end up being value valued at the cost at which each security was bought Investors buy or sell units on the basis of the information contained in the NAV Helps in assessing the performance of the scheme / fund manager 9

Mark To Market: Case 1 Assume an investor buys 100 units when the NAV is Rs.15 and the units are issued to him at the face value of Rs.10. Post the purchase, the schemes numbers will be as follows: Particulars Value Calculation Unit capital Rs.101000 Rs. {100000 + (100 * 10)} No. of outstanding units 101000 units (10000 + 100) units OR Net Assets Rs.151000 (Rs.101000 / Rs.10 per Net Asset Value (NAV) Rs.14.95 unit) Rs. {150000 + (100 * 10)} Rs. (151000 / 10100) Issuing fresh units at a price lower than the NAV will result in the post issue NAV coming down for all investors 10

Mark To Market: Case 2 Assume an investor buys 100 units when the NAV is Rs.15 and the units are issued to him at the face value of Rs.10. Post the purchase, the schemes numbers will be as follows: Particulars Value Calculation Unit capital Rs.99000 Rs.{100000 – (100 * 10)} No. of outstanding units 9900 units (10000 – 100) units OR Net Assets Rs.149000 (Rs.99000 / Rs.10 per Net Asset Value (NAV) Rs.15.05 unit) Rs. {150000 – (100 * 10)} Rs. (149000 / 9900) Redeeming units at price lower than the NAV will increase the NAV for the remaining investors 11

Total Expenses In Mutual Fund Schemes Investment and Advisory Fees 01 All types of expenses incurred by is charged by AMC and 03 AMC have to be clearly identified disclosed in SID and applied to all mutual fund schemes 02 Recurring Expenses also charged toscheme Any other expense to be 04 borne by AMC or trustee or sponsors 12

Recurring Expenses Marketing & Brokerage Audit Funds transfer Statutory Maintenance selling fees cost advertisement of real estate expenses costs Agent’s Registrar Custodian Fees Insurance Storage & Listing fees commission Services premium paid handling of by fund gold Trustee Investor Winding up costs Rating fees Expenses of Expenses Communication commodity 13

T.E.R Limits Fund Category Scheme Type T.E.R Limit Fund of Fund* Liquid/Index/ETF 1.00% Equity Oriented 2.25% Index Fund/ETF Other Schemes 2.00% Close ended / Interval Fund Index Fund/ETF 1.00% Equity Oriented 1.25% 1.00% Others NOT to exceed 2 times of weighted average of underlying fund expenses 14

T.E.R Limits On Open-Ended Scheme Daily Net Assets (In Equity Schemes Debt Schemes Crores) 2.25% 2.00% First Rs.500 Crore 2.00% 1.75% Next Rs.250 Crore 2.00% 1.50% Next Rs.1,250 Crore 1.60% 1.35% Next Rs.3,000 Crore 1.50% 1.25% Next Rs.5,000 Crore Total Expense Ratio reduction of 0.05% for Next Rs.40,000 Crore every increase of Rs.5,000 Crore 0.80% On the balance of the 1.05% assets 15

Additional Limits Expense Type Conditions Limits Brokerage & transactions Cash Market 0.12% Derivatives Market 0.05% New fund inflows from b- (a) 30% of gross inflows 0.30% 30 locations (b) 15% of average Use the formula given AUM below If NOT (a) OR (b) above Any additional expenses Under recurring 0.05% expenses Daily net assets x 30 basis x new inflows from beyond top 30 cities 365* x higher of (a) or (b) above *366 where applicable 16

Dividends And Distributable Reserves SEBI guidelines stipulate All the profits earned are that dividends can be treated as available for paid out of distributable distribution reserves That portion of sale price on Valuation gains are ignored, new units, which is attributable but valuation losses need to valuation gains, is not to be adjusted against the available as a distributable profits reserve 17

Entry And Exit Load Current Position Earlier Position Entry load is banned by SEBI Entry & Exit loads Exit load can be were charged to bear charged but credited back to scheme various selling expenses No differentiation in exit load among various class of investors No exit load on bonus units and dividend reinvested units 18

Accounting And Reporting Requirements Units can be held in fraction of Units on stock exchange allow 1 unit whole units NAViscalculated up to 4 decimals NAV is calculated up to at least 2 in index/liquid/debt funds decimals in equity & balanced Accounts of scheme to be funds maintained distinct from AMC Norms are prescribed on accounts when interest, dividend, bonus, etc. to be reflected in accounts 19

Segregated Portfolio Separate portfolio of unrated debt and money market instruments of an issuer who has actually defaulted on either principal or interest payments Adequate disclosure of AMC shall not charge segregated portfolio shall investment and advisory appear in all scheme fee NAV to be declared on related documents daily basis 20

Summary: • In addition to the 10 Fair Value principles laid by SEBI, a mutual fund may value its investments according to the Valuation Guidelines notified by SEBI • The process of valuing each security in the investment portfolio of the scheme at its current market value is called ‘mark to market’ i.e., marking the securities to their market value. • The types of expenses in a Mutual Fund Scheme are investment & advisory fees, & recurring expenses.

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