NFO Decoded - Is It Worth The Hype?

Amidst the rallying markets and optimistic sentiments (till very recently at least), new funds seem to be launching in every corner. And with that, the buzzing sound of “NFO” is being heard everywhere. Impeccably timed by fund houses to capitalise on bull market run, do NFO investments really hold much value for you?

What is a NFO?
A new fund offer (NFO) is an offer made by investment companies or fund houses for the first subscription to a newly launched fund to allow the firm to raise capital. It can be thought of as the IPO equivalent formutual funds. Asset management companies (AMC)s pool the money raised through NFOs to invest in securities in alignment with the strategy for that fund.

The Pros
Depending on the strategy proposed, NFOs could provide a gateway for investments in fresh themes, which make for an especially great option when the fund deals with securities that generally have lower fund sizes.

NFOs are usually priced at par (around ten rupees per unit on average). This allows investors to acquire a substantial amount of units at a lower initial investment when compared to investing in existing mutual funds. It also facilitates a more accessible means to alternate investments and portfolio diversification. This could offer a tremendous upside and profits if the mutual fund performs well and the value of the securities held within the fund get factored into the intrinsic value of the fund.

A strategically sound fund with a great fund manager holding the reins could make NFOs a great investment. “Since a fund raises cash during the NFO it has the ability to deploy over a period. If this period coincides with a market correction, then it becomes advantageous for the fund to deploy cash at lower levels.” says Anand Vardarajan, CBO, Tata Asset Management.

The Cons
However, investing in NFOs means taking a huge leap of faith. Investing in a fund with no securities, no track record, no financials to substantiate the investments and uncertainty on whether the underlying stocks are cheap or expensive is a very risky proposition.

The theoretical concept behind the two may have led to drawing parallels between an IPO and NFO, but that's where the similarity ends. In an IPO, the company raising funds provides all financial, business and prospects related information in the prospectus. You therefore know the company's profits, growth over the years and can get a grasp on whether the offer price is justified. In an NFO on the other hand, the strategy behind the fund is all you have to go on.

While NFOs tend to be strategically unique or diverse, for those with diversified portfolios or invested in alternate investments already, these new offerings may not add any additional value as you may already have assets in that category which may have been obtained at better values.

According to Vardarajan, “Investors should be sure that they are not getting sucked into the most popular category or theme or just because everyone is investing. There could be a sense of FOMO that one should guard themselves against.” On a similar note, George Thomas, Fund Manager - Equities, Quantum Mutual Fund says, “Be cautious of thematic NFOs since they generally launch once a sector or a theme has recently gone up. A good part of the story is already behind by then”

The low initial investment and availability of units at a price as cheap as ten rupees may seem like a steal but when you factor in that the fund doesn’t own any stocks at the time of issuing subscriptions, the low price is more than justified for the funds current value. Says Thomas,“For a long term investor there is not much difference by participating in an NFO. The additional 15 days to a month’s additional return they might gain makes no difference in the long run.”

Should you invest?
Get into an NFO only if there is 1) a unique strategy, 2) exceptional fund manager, and 3) strategy benefits from a smaller fund size. Do a thorough check on its expense ratio and the performance of previous funds offered by the fund house before deciding to invest. With potential for profits, NFOs can also trigger lofty losses if not invested wisely. From a long term perspective there is not much you stand to gain by participating in a NFO.