The share price of a mutual fund is its net asset value, or "per share NAV." This number equals the fund assets minus its operating expenses, divided by the number of outstanding shares. All three parts making up the NAV can change every day. A mutual fund company calculates and publishes its new share price after the end of the trading day to reflect changes in its portfolio value as well as share purchases and redemptions.
A mutual fund manager is in control of a diverse set of assets. The daily per share NAV calculation must account for the price change of each item in the portfolio as well as the receipt of dividends and interest. Portfolio managers buy and sell assets and pay out expenses, and active managers constantly select new investments according to the fund’s trading style. The goal is to maximize return. Also in the mix are corporate actions, such as takeovers, spin-offs, bankruptcies and other events that change the portfolio’s value. All of these factors contribute to the change in a fund’s share price from day to day.
The denominator of the per share NAV calculation is the number of outstanding shares. Every day, a mutual fund can expect some new money to come in and some old money to leave. Unlike exchange-traded funds, mutual funds constantly create or cancel shares as investors enter and exit the fund. Sometimes, heavy selling by shareholders can force the fund manager to sell off portfolio assets before they've had a chance to become profitable in order to pay the sellers. This can hurt performance and therefore depress per share NAV. A manager usually keeps a few percent of fund assets in cash so that shareholders can receive their money without delay.
Mutual funds don’t pay taxes if they distribute all of their dividends, interest and realized capital gains each year. Distributions must occur no later than December 31. Each shareholder gets a pro-rated portion of the distributions. Distributions reduce the value of the portfolio. Therefore, the per share NAV falls in proportion to the amount distributed. New investors are sometimes startled when they see a huge drop in a mutual fund’s share price. These sudden changes normally stem from distributions. Shareholders can take the distributions in cash or reinvest them in the mutual fund. The taxes are the same either way.
When you sell your mutual fund shares, you might create a capital gain or loss. A gain occurs when you sell the shares for more than their cost basis -- the per share NAV on the purchase date times the number of shares you buy, plus any commissions or fees. If you buy fund shares over multiple transactions, you’ll have different tax lots, each with its own cost basis. You can direct the mutual fund to sell particular lots first to unload long-term shares first, because shares held for more than a year benefit from lower tax rates. You might also prefer to sell the lots with the highest per share NAVs, as this minimizes your gain and therefore your tax. Alternatively, you can instruct your mutual fund to sell your shares in the order of purchase or use an average cost per share.
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