A mutual fund collects money from various investors, and then invests this pool in various financial instruments. The fund managers attempt to generate returns superior than what the investors themselves would have managed.
Each mutual fund has its own investment objective, which falls into two categories: capital appreciation and current income. Suppose a mutual fund sells one million units or shares (used as synonyms in this context) at Rs 10 a unit and collects a total Rs 10 million. If the fund objective stated investment in blue-chip stocks, the fund manager would invest the entire proceeds (less any commissions and management fee) of that sale in buying equity shares of companies like Hindustan Lever, Reliance Industries, Hero Honda and so on. And each individual who bought shares of the fund would own a percentage of the total portfolio only to the extent of money invested.
The value of the fund’s portfolio would depend on how shares of these companies perform on the stock market (given their financial prospects). If the total market value of these companies (as reflected in the fund) increases to Rs 12 million, then each original share of the fund would be worth Rs 12 (Rs 12 million divided by one million shares). This per share value is what is known as the net asset value (NAV) of the mutual fund. It equals the market value of all its assets (after adjusting for commissions, expenses, and liabilities, if any) by the number of such units or shares outstanding.