SHARETIPSINFO >> Articles Directory >>What are closed end funds?


Mutual funds that have a fixed number of shares are normally called the closed ended mutual funds. Unlike the open ended mutual funds the fund management company can not issue new shares of the company at any time. For an investor it is not possible to invest in the closed end funds or redeem the share at any point of time. Once the fund starts to function, it is only possible to invest in the fund through the secondary market. That means you can not buy shares from the fund managing company directly. Rather you will have to buy the shares of the closed ended funds at the stock market. Unlike shares of the open ended funds that are traded after the closing of stock market, shares of the closed ended funds are traded at the stock market during the trading hours.

Determining price of the closed ended funds – Just like the open ended mutual funds, the price of the closed ended mutual funds is also denoted by the Net Asset Value or the NAV of that fund. The net asset value is calculated by dividing the total asset value of the stocks and securities held by the fund with total number of shares issued by the fund. But in case of the closed ended funds that are traded at the stock market it is often seen that the actual price of fund does not correspond with underlying NAV of the fund. This happens due the demand and supply of shares of that fund in the stock market. If there is more demand for the share of the fund than the supply, the trading price is found to be more than the NAV at the time. This excess price of the closed ended fund is referred as premium. On the other hand if supply of the shares of the fund is higher than the demand then shares are traded at a lower price than the NAV. It is referred as the discounted price of the mutual fund.

Advantages of closed ended mutual funds

Fixed number of share – The biggest advantage of the closed ended fund is that the number of shares is fixed in these funds and hence the fund managers have a clear idea of how much fund they have for the investment. Moreover, as you can not redeem the shares before the fund is liquidated; the fund companies need not keep cash ready for making payment to the investors. Therefore the fund managers have the entire asset of the fund for investing in various securities. This is the reason that closed ended funds earn more than the open ended funds and you as an investor can profit more from the closed ended fund.

The fact that closed ended funds are diluted only after a stipulated time period, it gives the fund mangers more time to trade with the assets and hence they can take more risk in comparison to open ended funds. Therefore the chances of profit also get multiplied in the closed ended funds.

As the asset of the closed ended funds remain as it is for considerable period of time the fund managers have more options to invest. While the open ended funds have to maintain some liquidity they can not invest in certain securities that does not allow redemption in short notice. On the other hand the assets of the closed ended funds can be invested in illiquid securities that significantly increase the chance of profit for the fund.

While the closed ended fund gets benefited from the fixed asset, the capital of the closed ended funds can be increased furthermore by using the common leverage. The fund companies can raise fund for enhancing capital by issuing auction rate securities, reverse purchase agreement, long term debt and preferred shares. This boost in the capital of the closed ended funds multiplies the profit of the fund.

All the closed ended funds are managed by qualified and experienced fund managers. As they have more options, more time and bigger fund to invest the earning of the closed ended funds are always better in comparison to the open ended funds. But the closed ended funds do not offer the greater liquidity of the open ended funds.



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