What are “Discount” and “Premium” for Funds (ETFs and Closed End)? Why do I love Discount and hate Premium? October 30, 2007Posted by deminvest in etf, investment, investment strategies.
@nav, I hope this answers your comment
All funds own assets. Those assets (stocks, bonds, cash…) have a value. Once you subtract the fund’s liabilities you get a very important number:
Net Asset Value (NAV). For a fund that only owns shares, the NAV is the sum of the values of all shares belonging to the fund.
Some Funds (ETF and Closed End) are freely traded on stock markets. Their prices go up or down like anything else on markets. Since the price of a freely traded fund is free to change, there can be a difference between the price of a fund and its NAV.
When the price of a fund is lower than its NAV, you can buy the fund with a Discount.
When the price of a fund is higher than its NAV, you can only buy with a Premium.
I love to buy at Discount because I spend less than that price of the shares inside the fund.
let’s imagine the fund “Indian Elephant Fund” which owns:
- 1000 shares of Indian stock A worth $2 each and
- 2000 shares of Indian stock B worth $3 each.
Net Asset Value (NAV) of this fund is $8000 ($2000 worth of stock A + $6000 worth of stock B)
Let’s imagine that the Fund is made by 1000 units traded on the NASDAQ. If for some reason those units were traded on the NASDAQ at $6 each, we would say that:
“Indian Elephant Fund” is traded at Discount. in the example the Discount would be 25%
If those units were traded at any price higher than 8, we would say “Indian Elephant Fund” is trading at Premium.