Public offering price can be relevant in an IPO context. Image source: Getty Images.

The public offering price, or POP for short, is what you have to pay in certain situations in order to make an investment. The term is most often used in two contexts.

First, POP is an important term in the mutual fund industry. For most mutual funds, the public offering price you'll pay is the same as the net asset value, or NAV, because most funds don't impose up-front sales charges on their investors. However, for funds that have sales loads, the public offering price is higher than the NAV, because the fund company adds on the amount of the sales load.

Secondly, some investors refer to the public offering price in the context of an initial public offering of a fund or stock, which represents the price at which the underwriter of an IPO makes shares available to the public.

In either situation, what happens next says a lot about whether the investment in question is a smart one.

POP and mutual funds

Mutual funds with a public offering price that's higher than the net asset value give their investors an immediate haircut on their investment: Investors pay the higher POP, but they'll only get the NAV back when they sell. With sales loads that can go as high as 8.5%, paying the public offering price can be costly.

Image source: Getty Images.

For example, say a fund has an NAV of $10 per share and charges an 8.5% sales load. In this case, the public offering price will be 8.5% higher than $10, or $10.85 per share. If you invest $1,000 in the fund, you'll receive just under 92.2 shares of the fund. However, the value of those shares will be just $922, or $10 per share. Put another way, the NAV would have to rise 8.5% just for you to break even on your investment.

The fact that sales loads inflate the public offering price and put you in an immediate-loss situation is the biggest reason why load funds aren't good investments. Some funds earn strong enough returns to overcome the initial handicap of a high POP, but most continue to lag.

Public offering price and IPOs

With initial public offerings, the opposite is often true with respect to POP. Many investors look enviously at the public offering prices of IPOs, wishing they could have access to the shares that institutions and other favored investors get from their underwriters. Instead, those regular investors often have to wait until shares start trading on the stock exchange, and the typical first-day jump in share prices means that the public offering price was an extremely good deal.

Of course, there's no guarantee that an IPO will be successful, and sometimes those who buy at the public offering price end up losing out. If the stock falls after the IPO, then you would have been better off waiting, rather than buying shares from the underwriter.

If you want to make smart investing decisions, then it's crucial that you understand situations in which the price of an investment differs from its true value. By knowing the contexts in which a public offering price is important, you'll be better able to capitalize on opportunities while avoiding potential risks.

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