Fund valuation and the dilution effect

According to our research Financial Knowledge and Capability in Hong Kong: A Foundation Study, 37% of Hong Kong people have invested in funds. Fund (excluding MPF/ORSO) was ranked second most popular investment product after stocks.

How much do you know funds? While it is widely known that the prices of a fund are based on its net asset value (NAV), you may not be aware that any subscriptions and redemptions by investors have potential impact on the fund’s NAV. The impact, which is known as the “dilution effect”, may affect the interest of the unit holders of the fund.

The subscriptions and redemptions by investors may dilute or reduce the NAV of the fund. This is because the fund would need to purchase and/or sell the underlying investments in a fund portfolio to accommodate such requests by investors. The purchase and sale of the underlying investments incur trading costs and related expenses including transaction charges, brokerage fees, taxes and bid/offer spreads, which will be charged to the fund and therefore diluting its NAV.

As the subscriptions and redemptions may affect the value of a fund, the fund manager may adopt anti-dilution measures to safeguard the interest of those investors remaining in the fund.

Anti-dilution levy and swing pricing are the common types of anti-dilution measures. Anti-dilution levy is generally an extra charge levied by fund managers on investors subscribing or redeeming any fund units, while swing pricing is generally a mechanism which adjusts the fund’s NAV to account for the costs arising from the subscriptions and redemptions.

Investors should refer to the offering documents of the fund, in which there is disclosure about whether there are any anti-dilution measures adopted by the fund, and if so, the type of measures in place, how such measure works and under what circumstances the application of the anti-dilution measures may be triggered. If in doubt, you should contact the relevant fund houses and/or intermediaries for further information.

Learn more about the dilution effect and the anti-dilution measures of a fund.