Performance NAV Calculations on Mutual Funds by ikn20172


									     ‘Reporting’ or ‘Performance’ Net Asset
         Valuations for Mutual Funds


The purpose of this paper is to document the circumstances in which non-dealing Net Asset
Valuations (NAVs) are calculated and to examine if the calculation of non dealing NAVs has
any significant implications for Fund Administrators. Non-dealing NAVs are commonly
referred to as Reporting NAVs or Performance NAVs by different managers depending on the
use to which they are put.

What is a ‘Reporting’ or ‘Performance’ NAV?

A ‘Reporting’ NAV calculation is generally a recalculation of a NAV outside of the normal
agreed valuation cycle for a fund, the result of which is used to discharge some reporting
requirement of the Manager. For example, a ‘Reporting’ NAV may be required for financial
statement disclosure.

The same calculation could be termed a ‘Performance’ NAV if it is used by a Manager to
calculate the performance of the fund against a benchmark, a competitor fund or for use in
marketing literature of the fund.

When might a non-dealing NAV be calculated?

A non-dealing NAV is generally calculated for one of the following reasons.

1.      Financial Statement Disclosure

Although not stipulated within any legislative or regulatory framework it is common practice
in the US to ensure financial statement disclosure is 100% reflective of trading carried out in
a given reporting period. Where the ‘Dealing’ NAV is calculated on the basis of trade date
+ 1 trade inclusion, the Manager may request that the financial statements reflect a closing
period NAV with trade inclusion up to Trade Date.

Neither the shareholder dealing cut-off nor the actual valuation cut-off points of the fund is
affected. The ‘Reporting’ NAV will in this circumstance only be used to provide the most
true and fair value of the underlying investments on a given day and generally does not
represent an executable dealing NAV at which investors can purchase into, or sell their
ownership in, the fund. Where there is no material difference between the Dealing NAV and
the Reporting NAV the Fund’s Financial Statements will typically be prepared using the
Dealing NAV.
2.      Performance Reporting

The past performance of a fund, as compared to either a suitable market index or competitor fund
offerings, is an important measure in the marketing of a Fund and the Manager. The purpose of a
Performance NAV is to be able to report how well a Manager has achieved a return on the capital
invested. This is used either for (1) internal management reporting purposes, especially
where the manager is remunerated by performance related agreements and/or (2) external
reporting to existing or potential investors.

A fund which tracks an index but includes trades in each valuation on a trade date + 1 basis
will typically require an additional Reporting NAV at the time the basket of stocks making up
the index is re-balanced.. This enables the Manager to reflect his current period trades and
prepare an accurate comparison of his portfolio weightings against those of the target index.
This is particularly relevant to Index tracking funds, which, have a very low tolerance to
benchmark divergence and over exposure to sector weightings as a result of the underlying
benchmark making a significant addition/deletion to the index basket on the last business day
of each quarter.

Equally, a Reporting NAV may be required at the end of each month to fulfil performance
reporting where the fund is typically valued using intra-day prices for some of the markets in
which it holds investments. The use of a reporting NAV calculated at close of business prices
will eliminate any inherent divergence between the dealing NAV and the performance of the
markets for that day and allow for a more accurate comparison of the performance of the fund
with the performance of an appropriate benchmark.

3.      Fair Valuation

A manager may request a non-dealing NAV be calculated to review the impact of a
significant market event subsequent to the actual dealing NAV calculation. In these
circumstances it can lead to the utilisation of security level ‘Fair Value’ pricing methodology.
Depending on the analysis between the actual ‘Dealing NAV’ versus the revised NAV,
appropriate action can be invoked to compensate for a significant divergence. This action may
be covered by provisions outlined in the Fund’s documentation.

Implications for Fund Administrators of calculating non-dealing NAVs

In practice, with the exception of a Fair Valuation review following a significant market
event, the reporting NAV will not vary considerably from a dealing NAV. The difference
between the two NAV’s is generally lower than 50 basis points and can usually be verified by
some simple checks. The significance of the difference often lies in the impact it has on the
rounded NAV for reporting purposes.

There are generally no provisions relating to the procedure for striking non-dealing NAVs.
Practice within Administrators is to apply a common approach to the calculation of a non-
dealing NAV as that adopted for calculating a dealing NAV. The requirement to produce an
additional reporting NAV is usually laid out in the Service Level Agreement between the
Manager and the Fund Administrator.

Current industry guidance on the subject of compensation for pricing errors does not, by
definition, cover the issue of erroneous non-dealing NAV’s. The question of compensation
will only arise in the event of an error in the NAV on which units in the Fund were either
created or redeemed.

July 2004

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