Mutual Fund dividend calculation - a misleading method for customer

Every AMC (Asset Management Company) announces dividend in the month of January to March as many people are interested in saving tax and making investment for Section 80C.These people do not really understand the concept of mutual fund dividend calculation and make investment for fund which declares high dividend. People put more focus on dividend % than fund performance. It’s never like the mutual fund gives high dividend is best performer in that category of mutual fund.

The corporate/Share dividend and mutual fund dividend are two sides of the coin. The share dividend is profit of the company shared with share holder and your share price will not changed based on dividend. The mutual fund dividend is not profit of the fund but it’s your own money given back after reducing fund value.

This is really terrible way to invest money in any kind of dividend oriented mutual fund. Let’s take an example of real investment in mutual fund.

You purchase a new mutual fund (a dividend fund) for Rs 1000 with current NAV of Rs 10. So, you receive 100 Units for this purchase. The fund announces a dividend of 50 percent. Remember the dividend will be calculated on fund‘s face value, which is Rs 10.So you will get Rs 5 per unit held by you which comes Rs 500 (5 X 100) on dividend record date. The NAV of fund will drop by Rs 5 on the record date. So, on the record date of dividend calculation, you will get Rs 500 as dividend and fund value will be Rs 500 instead of Rs 1000 now so total investment plus profit is again Rs 1000.

Mutual Fund Dividend calculation method

Dividend Fund

Action

Units

NAV

Fund Value

Realised Gain thru Dividends

Total Profit & Investment

Investment of 1000

100

10

1000

0

1000

Dividend 50%

100

5

500

500

1000

Dividend 20%

100

3

300

200

1000

So, you have not got any gain in this dividend declaration by the mutual fund company. There are simply making publicity to gain large no of new customer.
If you really need your money back immediately while making fresh purchase of Mutual fund then you can opt for dividend fund like the case of tax saving Equity linked saving scheme (ELSS).But this is not best practice to follow regularly. It will be difficult to track your investment as AMC will keep on declaring dividend once or twice in a year. it will be more difficult to get cheques from AMC then submit to the banks regularly if you have not opted for direct deposit in bank account.

If you invest money in dividend fund then you will receive partial amount of your fund value whenever Asset management company (AMC) announces mutual fund dividends. But remember your investment amount will reduce based on dividend declaration.

The only good points about dividend fund are dividend is Tax free.
So, don’t put more focus on dividend percent rather check fund’s past performance.

9 comments:

  1. To consider dividends as your own money is debatable. To begin with, one should know that a fund's NAV is reflected by its AUM. If AUM is large so is NAV (if the units remain same i.e no one buys no one redeems. Even if buy / redemptions take place, they are small that AUM is not effected, in most cases). Secondly, with time AUM may increase or decrease based on market conditions. Generally funds declare dividends if AUM increases and they share some of the increased AUM with the investors.

    Now consider if a funds AUM is Rs X at NAV Rs Y. If an investor invests in the fund at this point he will buy units at Rs Y. Say if AUM grows to Rs (X+Z) after some time, so NAV also grows to Rs (Y+W). Now this extra Rs W is investors capital appreciation or return on capital. At this point if fund declares a dividend, surely AUM will come down and so will NAV.Lets say fund declares a dividend and if another investor buys the fund now for NAV Y+W in the hope of earning quick tax free dividends he is getting back his own money. Because the money which he is getting back is the capital which appreciated over time and grew. He is buying the fund at the increased capital and being given back a portion of the same.

    In this case the long term investor is the one who is the true profiteer. He is getting back a portion of his capital which has appreciated with time.

    Also your calculation for calculating the returns is wrong. You are not consider NAV appreciation (I assume you have taken the case of a NFO). Also you are not considering the AUM. When dividends are declared NAV doesnt fall by the exact dividend amount. It comes down by somewhat lesser amount than the declared dividend

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  2. 1)When Dividend declared, NAV falls with dividend amount plus ( actual change of NAV based on Today's market trend. may be +/- amount )
    2)To declare dividend,it's purely driven by AMC's marketing team.We have seen dividend in year 2008 when market falls very badly.so even if AUM was getting lesser they declared dividend to attract more customer.
    3) In your example:
    --If you are looking only for quick tax free return and no long term goal then you have only Dividend payout option.
    --if you invested at Y today(Units 100) and goes to Y+W(W can be positive/negative based on bull/bear market also) then dividend declared of Rs.5/unit then you will get Rs 500 as dividend and your fund value is 100*(Y+W-5).From now
    if there is bull market then you will gain appreciation only on 100*(Y+W-5) so it's not good for long term investor.
    if there is bear market then you will make loss only on 100*(Y+W-5) then its good because you have got extra dividend earlier.

    Consider you are investing money for your child education for 10 years then getting small chunk of money every year in the name of dividend which again deducted from your portfolio only.
    4)My calcuation, I wanted to highlight how dividend was deducted from your fund value only.

    ReplyDelete
  3. 2)To declare dividend,it's purely driven by AMC's marketing team.We have seen dividend in year 2008 when market falls very badly.so even if AUM was getting lesser they declared dividend to attract more customer.
    ---
    --- Dividends are not declared to attract customers. Otherwise why dont all funds declare dividends at the end of financial year? And why small dividends of range Re 1 or Rs 2 and even 50 paise? I think you have taken only ELSS into consideration. If it was to be a good marketing strategy, then why didnt people buy mutual funds in 2008? Why dont we see fund inflows at financial year end?

    "2)To declare dividend,it's purely driven by AMC's marketing team" is wrong. AMC's marketing team has to be replaced by AMC's management.

    ---


    --If you are looking only for quick tax free return and no long term goal then you have only Dividend payout option.
    ---
    ---Dividend option is not the only tax free option, growth option is also tax free provided you hold it for long term so as to avoid long term capital gain. Use dividnen payout only if you want income at some interval (of course not guaranteed). To me dividend reinvest seems to be a safer bet as it diversifies the risk to capital appreciation and dividend income. While in growth the only factor is capital appreciation.

    ----

    --if you invested at Y today(Units 100) and goes to Y+W(W can be positive/negative based on bull/bear market also) then dividend declared of Rs.5/unit then you will get Rs 500 as dividend and your fund value is 100*(Y+W-5).From now
    if there is bull market then you will gain appreciation only on 100*(Y+W-5) so it's not good for long term investor.
    if there is bear market then you will make loss only on 100*(Y+W-5) then its good because you have got extra dividend earlier.

    ---
    If it is a bull or bear market NAV of both dividned and growth option will be affected. Both NAV will come down or go up. So if there is a bear market you might have lost capital in growth option. While in dividend reinvest option you will atleast get back some capital. If a bull market were to come back, growth will get you back to the same NAv, but in dividend reinvest you will have benefit of both reinvested capital appreciating and also the NAV appreciation of 100 units.

    ----
    Consider you are investing money for your child education for 10 years then getting small chunk of money every year in the name of dividend which again deducted from your portfolio only.
    ---I think one should also consider dividend reinvest option



    ---

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  4. Also still your calculation is wrong cause the NAV would have changed by the time dividend has been declared (appreciated or depreciated). You are assuming the same NAV even at dividend declartion.

    If we were to go by you calculations then if a company declared 2 dividends of Rs 5 each, then all its assets have been paid off as dividend. In other words, fund has no value ;). If you are to assume that fund declares a dividend as high as Rs 5( which we generally dont see) you should atleast consider the NAV of the fund to be MINIMUM Rs 15.

    ReplyDelete
  5. Also if growth is the best long term bet, the NAV of growth schemes should touch sky high prices with time as nothing is being paid out (and our sincere assumption that equity is the best asset class over the long term). There are schemes for more than 15 years but the highest NAV they have reached is in the range of few hundreds from the lowest value of Rs 10.

    Going forward the NAV of same schemes should break their previous high (just like their benchmarks do and they are supposed to follow the benchmarks) and touch new high in order to give good returns to investors. Otherwise how would the capital appreciate and investors will get their due?

    In other words some 10 years down the line the NAV of most growth scheme (which are over 15-20 yeras old) should be like 500 or 1000 in order to justify double digit returns boasted by MF. This doesnt seem realistic to me to say the least. Even if for a moment I assume that they do acheive this price, does there exist a concept of split or bonus (as it is in stocks) to bring their price down so that small investors can still buy the fund? I dont think so.

    ReplyDelete
  6. please read for dividend reinvest vs growth http://www.investmoneybetter.com/2010/12/mutual-fund-growth-vs-mutual-fund.html

    one of the reason - AMC can deduct only few % based on AUM for all expenses included fund manager salary and others,so they do not want give bigger dividend and reduce AUM.

    As you said, fund NAV depends on market condition.it can not grow all the time so we do not have nav of 500 -1000. for hdfc top 200 growth has nav value of 200+ launched in 1996.its one of best performing fund.

    additional info -
    http://www.valueresearchonline.com/story/h2_storyView.asp?str=100609

    my calculation was to show own money concepts so not count profit or loss of the market.
    thanks for raising lots of concerns.

    ReplyDelete
  7. one of the reason - AMC can deduct only few % based on AUM for all expenses included fund manager salary and others,so they do not want give bigger dividend and reduce AUM.

    -- Please read http://www.moneycontrol.com/mutual-funds/recent-dividends. Dividends can vary a lot depending on the fund.


    ---As you said, fund NAV depends on market condition.it can not grow all the time so we do not have nav of 500 -1000. for hdfc top 200 growth has nav value of 200+ launched in 1996.its one of best performing fund.

    -- What about UTI Master share? It has been for 25 years but its NAV is stuck at 50? And there are only 4-5 funds which have 100+ or 200+ NAV. Most of the growth options have NAV<100. Given that sensex rose from 6000 to 21000 in 7 years, (2000-2007) this rise is not captured in NAV.

    Also over a long term, the dividends declared will cover up for the face value of the scheme. (Check dividend history of some good funds at moneycontrol.com)

    --my calculation was to show own money concepts so not count profit or loss of the market.

    ---- sorry to say this but this doesnt make sense.

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  8. http://www.thehindubusinessline.in/iw/2005/01/09/stories/2005010901111000.htm

    ReplyDelete
  9. http://www.thehindubusinessline.in/iw/2005/01/09/stories/2005010901111000.htm

    ReplyDelete