Walking on a risky path of new investments: IPO or NFO – which one is better?

January 14, 2021 1:02 PM

We have a strange scenario – on one hand we have investors booking profits and on the other investors are investing in IPOs and NFOs.

investment, wealth creation, new fund offer, NFO, initial public offering, IPO, equity investment, equity-oriented mutual fundBoth NFO and IPO investments need more patience and time from investors' end and it also carries additional risk.

By Harshad Chetanwala, Co-Founder – MyWealthGrowth.com

The month of December saw around Rs 7,500 crore of inflows in 9 different equity oriented NFOs during the month. At the same time, the outflow from overall equities was a whopping Rs 36,000 crore. The inclination towards IPOs too continues as we see oversubscription of most of the IPOs – Mrs. Bectors Food IPO was oversubscribed almost 200 times. This clearly shows that investors continue to remain keen to invest in equities despite markets being at all-time highs.

We have a strange scenario – on one hand we have investors booking profits and on the other investors are investing in IPOs and NFOs. While we all may think in different ways when it comes to investing in equities right now, one thing that we should keep in mind is not to get carried away by the NFO and IPO rush as investors. Both NFO and IPO investments need more patience and time from investors’ end and it also carries additional risk.

Given the recent performance of some of the IPOs like Burger King, Happiest Mind Technologies and Mrs Bectors, it is very tempting for investors to invest in the next IPO as the fear of missing out tends to be high amongst investors when it comes to equities. Investors would do well to remember that it is when the markets are high that the IPO and NFO rush begins.

One of the biggest risks of investing in IPO is Valuation Risk. The possibility of you investing at higher valuations during IPO is quite high. Another risk related to NFOs as well as IPOs is lack of track record or having limited information about the past performance of these investments. In any kind of investment, past performance is one of the parameters that matters in deciding whether you should go for it or no. Given the above risks – high-risk profile investors may think to invest a small part of their wealth through NFO or IPO as they can take some additional risk. Low- and medium-risk appetite investors may look at existing available funds and companies where they can take more informed decisions to reduce their risk.

How to create additional source of income without taking much risk

As far as NFOs of mutual fund go – there used to be a misconception about the NAV i.e. it is better to invest in the fund where NAV is not high. Hence, it is better to invest during NFO as the units are available at NAV of Rs 10. Well, it is not the NAV of the fund that matters, it is the portfolio and performance of the fund that really matters.

Let us take an example of two funds, Fund A and Fund B. Fund A’s NAV is Rs 100 whereas Fund B’s NAV is Rs 10. Both the funds are similar in nature and after one year the NAV of Fund A is Rs 120 and Fund B is Rs 12. While NAV of Fund A is 10 times higher than Fund B it does not make Fund A expensive, both the funds have given 20 per cent return in the last one year; that is what should be considered while investing and not the price of a unit. There was a phase where a lot of investors had an inclination to invest in NFOs just because they get units at Rs 10, I hope that misconception no longer exists, and it is no longer the sole reason to invest in NFOs. Similarly, in IPOs it is the valuations of the company along with growth prospects that matter and not the premium at the time of listing.

I certainly do not want to discourage NFO or IPO investment. From an investment perspective, it makes a lot of sense to invest in NFO, if that fund is offering a unique product that is not available in the industry and has the potential to deliver the returns as per investor’s expectations. Or in case of IPO, if the company is reasonably attractive from valuation and growth perspective. Otherwise, it could be better to go with existing options available in the market. The opportunity to invest in a fund or company after initial offering always exists, may be after sometime you can make more informed decisions as you get more information on these investment options.

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