What is NFO? – All You Need to Know About New Fund Offer

Last Updated: 13 Jun 2024

New fund offerings (NFOs) of mutual funds are somewhat like an IPO for equities. An NFO is issued either because the AMC wants to raise funds for the first time or because there is a new category of fund where the AMC does not have an exposure.

What exactly is an NFO or new fund offering?

When a fund house issues units for the first time or raises fresh funds for a new theme, it is referred to as an NFO or a new fund offering. Quite often, retail investors prefer an NFO over buying mutual funds via the continuous window from the AMC. Some investors also invest in an NFO assuming that it is almost similar to an equity IPO issued by companies. That is not correct. In recent times, SEBI has become stricter with respect to the criteria for issuing NFOs and AMCs are not allowed to issue NFO on duplicate themes.

How is a mutual fund NFO different from a company IPO?

While many investors tend to equate an NFO with an IPO, they are as different as cheese and chalk.

• First and foremost, an IPO is either in the nature of fresh funds being raised for the company or in the form of an offer for sale (OFS). On the other hand, an NFO is for fresh fund raising and there are no limits to the amount of funds that can be raised.
• Secondly, company IPOs have separate quotas for retail investors, NIIs and for QIBs. Some IPOs even offer additional discount for retail investors. However, there are no such special benefits to retail investors in case of mutual fund NFOs.
• In IPOs there is the critical aspect of valuation based on P/E ratio, EV/EBITDA ratio and P/BV ratio, which go into IPO pricing. There is no question of valuations in an NFO since the amount collected is simply divided into units and invested in the market.
• In an IPO, the usage of funds is very important as that will determine whether the IPO money will add value to the investor or not. In case of NFOs, the level of the market is more important as it will determine at what valuations the fund will invest.
• IPO price is indicative of perceived value of the company since a quality IPO commands a better valuation. When it comes to NFOs, most of the fund NFOs come out at a price of Rs.10 but that is just indicative. What matters is the level these funds enter the market.
• An IPO can list at a premium to issue price or at a discount depending on the demand, market conditions and news flows. However, in an NFO the marketing, administrative and other costs are debited to the fund, so NFOs normally open with a discounted NAV.
• Finally, IPO price is determined by forces of demand supply. Only the price range is determined in advance and actual price is discovered by book building. The NFO has nothing to do with demand or supply and the NFO only has an indicative unit value.

Who launches IPOs, and who launches NFOs

An IPO is launched by a company wanting to raise money from the public and are of two types. Firstly, there are Fresh Issues where the company raises fresh funds in the market. This fund-raising could be for expansion, diversification, repayment of debt etc. Secondly, companies also do an Offer-for-Sale of OFS, wherein promoters or early investors offload their stake through the IPO. In the case of OFS, share capital remains the same, just that the company gets listing.

NFOs, on the other hand, are launched by mutual fund houses or AMCs. The idea of an NFO is to launch a new fund idea in the market. NFOs tend to be concentrated around market peaks. Of course, a lot of these NFO ideas could get constrained after SEBI has passed the new MF regulations on categorization of funds. The second popular source of NFOs is by AMCs trying to fil up gaps in their fund offerings through NFOs.

Is it true that NFOs are attractive being always available at Rs.10?

This is a myth. When it comes to a mutual fund, the net asset value or the NAV is just indicative of the unit value of the underlying portfolio of the fund. When an equity NFO comes out when the Nifty is at 30 times P/E, then the NFO and all existing funds will be buying stocks only at these valuations. It does not matter what is the issue value of an NFO.

For example, buying a mutual fund in the secondary market at a NAV of Rs.145 is a great idea when the Nifty is available at 14 times trailing P/E. On the other hand, investing in a mutual fund NFO at a NAV of Rs.10 is a bad idea if the Nifty is quoting at a trailing P/E of 29. Whether the NAV of the fund is Rs.10 or Rs.100 does not matter. What matters is the quality of the underlying portfolio.

Is buying nfos is cheaper than buying units from the continuous window

That is not necessarily true and in fact you may end up paying a higher cost in an NFO. When a mutual fund comes out with an NFO it has to spend heavily on marketing, publicity and distribution. It entails higher costs in the form of advertising, publishing pamphlets, printing of forms and marketing collaterals, road-shows and broker meets across the country etc.

Additionally, most brokers and distributers demand upfront commission and trail fees for seriously distributing these mutual fund NFOs. When are these are added up, the upfront cost of an NFO is quite high. Since all these costs get debited to the NAV, the NFO will invariably list at a discount. In the case of continuous window, you have the choice of Direct Plans which are much lower on costs.

Are there any similarities between an IPO and an NFO?

IPOs and NFOs are similar in that both entail raising money from the public. Like in the case of IPOs, NFOs are also kept open for subscription for a fixed period of time. However, IPOs are normally closed in 3 days while NFOs tend to stay open for 15-20 days. Like in case of IPOs, the NFOs also entail a cost in terms of marketing costs, administrative costs, legal and compliance costs etc.

Secondly, both IPO and an NFO tend to be scattered around periods of high growth and solid stock market returns. Both the NFOs and the IPOs are regulated by SEBI covering all aspects right from filing the prospectus to monitoring the actual allocation of funds.