The Valuation of Mutual Funds
The simplest and most common valuation of a mutual fund is its price, also known as net asset value, or NAV. The price factors in to a number of other measurements that aid in determining the overall value of the fund. By knowing the role price plays in these calculations, you can more fully understand your investment.
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Price Calculations
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Mutual funds are priced once per weekday after the stock market has closed. The price is calculated using the NAV method. This method adds up the total closing value of all stocks or bonds in the fund portfolio and subtracts fund operating costs and fees. That number is divided by the total number of outstanding shares to determine the price per share. The total value of an investor's share holdings in the fund is the daily price multiplied by the number of shares held.
Differences in Share Classes
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Share classes within the same mutual fund may have different prices. While the portfolio will be the same for each share class, there are slight variations in fees between classes. It is the fund fees that cause the difference in price. In most cases this is not more than a few pennies.
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Effect of Price on Returns
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The fund price is one of two components factored into a mutual fund's rate of return. The rise in fund price over time is called capital appreciation. This number is combined with the total value of dividends, interest and capital gains distributed from the fund to provide a total rate of return.
Price Volatility
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Large, frequent fluctuations in price are an indication of fund volatility. High levels of volatility make it difficult to predict a fund's performance and make the investment somewhat more risky. Price volatility is measured by the standard deviation--the average amount a price changes from period to period--and can be compared to similar funds as a measure of fund quality.
Fractional Shares
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Mutual funds are one of only a few types of securities that allow the purchase of fractional shares. This means that as an investor, you may buy and sell according to whole dollar values rather than just by shares. This is especially important as you must agree to buy or sell shares prior to market close and the calculation of that day's share price. For example, you agree to purchase $100 worth of shares regardless of share price during the day. After the market closes the NAV is calculated at $6.50. Rather than only purchasing 15 shares and having $2.50 left over, you will purchase 15.385 shares for a full $100.
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