Investment Basics: Don't ask me how much!

One article contributed by my friend, Tony Low, who is currently a fund analyst with a major financial institution. Happy Reading

Investment Basics: Don’t ask me how much

It has always been perplexing when investors ask, "How much is the fund price? Is it too expensive to buy now?" Is a fund priced at $1 cheaper and henceforth a better value than a $3 fund? This article aims to debunk the myth that price matters when you invest in a unit trust.

First off, investors need to understand how the fund price is derived. We must also check whether the price is affected by any corporate actions. After that, we look at how the timing of the launch also affects the fund prices.

How is the Net Asset Value (NAV) calculated?
In the morning of each business day, the valuation team of the Fund would be busily
compiling the closing values of the assets of the fund from the previous day. The assets of the fund would be made up of the various equities and/or bonds that the fund manager had purchased on behalf of the fund. The total market values are all summed up to give a Fund Total NAV for the day. The Fund’s daily NAV is thus simply taking the Fund Total NAV divided by the total number of units outstanding.

Let us use the UOB Global Emerging Market Portfolio SGD (UOB GEMs) as an
example. According to the last annual report, the fund had a Total NAV value of
S$90,547,777 as of 30 June 2005. At that point in time, the fund had also issued
75,035,757 units. Thus the NAV on the 30 June 2005 was calculated as S$90,547,777 /
75,035,757 = S$1.2067, rounded off to S$1.21.

As you can see, the fund price calculation is dependent on two factors, the Total NAV
and number of units in issue. The value of the fund is thus related to the investment
performance of the fund manager. For obvious reasons, a better performing fund would
tend have a higher Total NAV than a not-so-good fund, therefore, it is also likely to have a higher price. Let’s take a look at some real life examples. Both the Henderson Global Property Fund and the DBS Global Property Securities Fund were launched at around the same period in March 2005. As at 21 February 2006, the Henderson fund is priced at S$1.21 while the DBS fund is priced at S$1.146. Since inception, the Henderson fund had a bid-bid return of 26.01% while the DBS fund reported a 15.12% return. In this example, the Henderson Property fund demonstrated superior returns over the same period, hence resulting in a higher fund price.

However, a higher fund price does not necessarily translate to a better performing fund. Confused yet? Let’s use another real life example, the DBS Shenton Income Fund (SIF) and the Franklin Templeton Global Bond Fund. The DBS SIF is now priced at S$1.534 as at 21 February 2006 while the FT Global Bond is priced at a whopping S$10.59. Does this mean that the FT fund is 7 times better than the SIF? The answer is No! The reason the FT has such a high price is because when Templeton launched the fund in December 2003, it was already priced at $10 per unit. An investor with S$10,000 would receive only 1,000 units (assume no sales charge) if they had bought the fund then. It is purely.the Fund Manager’s decision to determine the launch price and are even funds that are trading as high as US$100 per unit.

Dividends and stock splits
In the last couple of years, Fund Managers have recognized the yearning of local
investors for dividend payouts and have structured their funds to make annual, semi-annual, quarterly and even monthly payouts. All these payouts are made using the income derived from the fund (and sometimes from the NAV) and is usually expressed as an X amount of cents per unit held. The fund would have a dividend ex-date (xd) whereby the price of the fund would fall by the amount of dividend declared, assuming the underlying market remains unchanged. Therefore, the fund price of a dividend-paying fund would tend to be lower than a fund that doesn’t do any payouts.

I will use the Prudential MIP fund to demonstrate this point. The Pru MIP is divided into two classes, the ‘M’ class, whereby the dividends are paid out on a monthly basis, and the ‘A’ class whereby the dividend is paid on an annual basis (although iFast automatically reinvests it for their clients). Regardless of whether the client purchases the ‘M’ or ‘A’ class, the underlying assets are the same, and thus clients should be indifferent to either. However, a quick look at the prices will see that the ‘M’ class is priced at 0.996 on 29 December 05 while the ‘A’ class was priced higher at 1.037. One should not think that the MIP ‘A’ is a better fund than the ‘M’ fund, as the different is price is purely due to the different frequency in payouts.

Another type of corporate action that could affect fund price is the ‘Stock Split’. It is because of the investing public’s preference for a ‘cheap’ fund that fund managers tend to do stock splits for a fund that has climbed to a high price level. The reasons given by the fund managers are that a ‘cheaper’ priced fund will attract more interest from new investors, and as the fund size grows from the inflows of new money, current investors will benefit from a falling expense ratio as the fixed costs are spread amongst more people. Investors can tell if the fund has undergone a stock split by referring to the fund factsheet. Therefore, it is not fair to compare prices of a fund that has done a split with one that didn’t do any.

When was it launched?
Another factor that affects the price of a fund has something to do with the timing of when it was launched. A fund that was launched at the wrong time could have suffered through the falling market and would sometimes still be ‘under water’ or less than S$1.00, even after a few years. Conversely, a fund that was launched at the right time could see its price appreciate by 2 or 3 times. Both funds could be invested in the exact same market and could even hold the exact same stocks, but for the fact that one was unlucky enough to be launched at the wrong time.

Let’s take a look at 2 funds that invests in the volatile technology market. The UOB
Global Technology Fund was launched on September 1997 and is priced at S$1.2238 as
of 21 February 2006. The ABN Amro Star Global Technology Fund was launched right
at the peak of the dot.com bubble in February 2000, and is now priced at S$0.209..Looking at the chart below, we can see that the performance of both funds for the past 6 months are nearly identical as both have a high correlation to the NASDAQ (green line). However, how do we explain the vast difference in fund prices? Pure luck, or unluckiness of the ABN fund in terms of timing.

So what does matter?
This question can best be answered by asking why the investor decided to invest in that fund in the first place. If an investor decides to invest in an Asian fund because he feels there is growth potential, he should then go out and pick the best Asian fund available, using his own set of criteria, i.e. Past returns, volatility, expense ratio etc. He should disregard the fund price of the fund that he has selected, since it will have no direct bearing on the future performance of the selected fund.


Tony Low
Disclaimer
The opinions expressed in this article are strictly the writer’s and does not necessarily represent Hong Leong Finance’s (HLF) views. This article is published for information only and does not have any regard to the specific investment objective, financial situation and the particular needs of any specific person who may receive this document. The information provided in this article may contain projections or other forward-looking statements regarding future events or future financial performance of countries, markets orcompanies. The writer reserves the right to make changes and corrections to its opinions or views expressed here at any time, without notice.

The investor must make their own assessment of the relevance, accuracy and adequacy of the information provided in this presentation and make such independent investigations, as they may consider necessary or appropriate for the purpose of such assessment. Accordingly, no warranty whatsoever is given and no liability whatsoever is accepted for any loss arising whether directly or indirectly as a result of the investoracting on any information, opinion or estimate provided in this presentation.