For most of the collective investment schemes, unit/share prices are calculated every day based on a pricing point already set in advance. If these prices are not released on time, there could be serious interruption to trading. Recently, BNY Melon faced a similar problem in releasing prices, due to some technical glitches impacting plenty of retail and institutional investors.
What is net assets value (NAV)?
NAVs are calculated either at financial statement level or at transaction level. One calculated at transaction level is known as price. Net assets are basically a surplus of assets over liabilities. When this surplus is calculated per unit/share it becomes the price of the unit/share. There is a possibility of negative surplus or deficit too.
Total assets of CIS $10m
Total liabilities $2.5m
NAV $7.5m (total assets less liabilities)
Units/shares in issue 10 million
So NAV per unit/share would be $0.75 (total NAV/units/shares in issue)
How are assets valued?
A CIS is a pool of assets owned by fund through money invested by investors. These assets are valued at bid/offer prices available in the market, and, if these prices are not available for any reason, then fair values of assets are taken into account
Other assets could be cash on hand plus distributable income not yet distributed.
What else is included/excluded from NAV?
Security trading takes place at notional dealing charges, either at buying or selling, or, depending on that, either included/excluded from final prices. On top of it, initial or exit charges are charged by fund managers to cover commission and other costs.
Why is materiality important for NAV calculation?
CISs are highly regulated and calculation of NAV is under oversight of not just trustees/depositories but regulators like the Financial Conduct Authority (FCA). Any significant error in NAV needs to be reported at every other oversight and regulatory hierarchy level.
Hence, incident reporting itself is a major task for fund managers. If NAV calculation is outsourced, final responsibility is still on fund managers, although responsibility of incident reporting and materiality calculation could be still agreed between fund managers and third party administrators.
Any pricing error > 0.50% must be reported to the FCA, along with preventatives fixed to avoid this happening going forward. Fund managers would be liable to compensate investors for loss suffered.
How is materiality measured?
Materiality in incident reporting is often measured in basis points. A basis point is equal to 0.01% hence 1/100th of a percent often denoted as bps.
A real life example of materiality (basis point measurement)
ABC Asia Pacific Capital Growth, domiciled in the US, invests primarily in Asian markets. It has sold few assets in India, on which the fund is liable to pay capital gain tax of $298,000. Net assets are valued at, say, $650,000,000 at this point of time. Hence, this will hit prices by 4.58 basis points – calculated as follows:
Basis points calculation = $298,000/$650,000,000*10,000 = 4.58bps
Not just for investors, but anyone associated with the asset management industry, basis points calculation becomes a good yardstick to measure materiality and put preventative measures accordingly.