A mutual fund is typically fashioned by an investment firm. The whole thing is publicized and the share holders are then encouraged to put their money in this mutual fund.

Closed End Mutual Funds - Does it Ensure Good Returns?

Closed End mutual funds are investment companies which sell their shares usually only once and in an initial public offering (IPO). Closed end mutual funds operate the same way as exchange traded funds (ETF) or the stocks of manufacturing or banking companies. This article guides you through:
  • Find out the principle behind closed end mutual funds?
  • Why IPOs are treated as the best time to buy closed end mutual funds' shares?
  • Why closed mutual funds don't have guided prices unlike the NAVs of open end mutual funds?
Closed End mutual funds are investment companies which sell their shares usually only once and in an initial public offering (IPO). An IPO is the first time a company sells its shares in public to retail (small) investors, investment agencies and banks and any other entities following the regulations made by SEC (Securities & Exchange Commission). These shares can not be redeemed (repurchased) to the issuing company at a predetermined price (based on the asset of the fund's portfolio) called as NAV or Net Asset Value. Thus for liquidity (any time salability) they are traded on stock exchanges like shares of banks and automobile companies, for example. Here the prices of closed end mutual fund shares are decided by the market demand and supply only.

How Do Closed End Funds Operate?

Closed end mutual funds operate the same way as exchange traded funds (ETF) or the stocks of manufacturing or banking companies. ETF is an exchange traded fund that tracks index and perhaps subjected to fluctuating prices. Once they are sold in an initial public offer, they are listed on stock exchanges (like New York Stock Exchange) to facilitate buyers and sellers to trade. The money raised through IPO is invested in different instruments as per the dictates of the fund's mandate.

Should You Consider Closed End Mutual Funds?

Looking at the product's performance and its current price levels you can really consider buying closed end mutual funds. The price may go above the issue price (NAVs in case a closed fund has one) when there is a demand for the shares. This is the sale of shares at premium. Premium also shoots up in cases of supply of shares being shorter. The reverse is also true and the shares sell at a discount making the price very attractive to invest.

Initial public offerings are the best time to buy closed end mutual funds' shares. The prices of shares at this point in time are generally affordable especially when they are sold at par (that means without a premium attached). Shares sell at a discount - less than issue price - when they are in abundant supply or is not performing to the expected levels in the short period. So, this is the time you can take an entry in to the closed end funds as they are affordable provided you are convinced of its long term potential to return.

Some Other Advantages of Closed End Funds

As closed end mutual funds are issued once only in the IPOs and they are traded in exchanges all over the counters, they don't have guided prices unlike the NAVs of open end mutual funds. Fluctuation in prices, not excluding the upswing can be huge. These results in a greater potential margin for you if you sell it when it is high assuming you purchase at low prices.

Another point in favor of closed end mutual funds is that fund managers are at liberty to keep the entire fund available with them fully invested eliminating the need to keep funds dead unlike in the open end funds. As closed end funds are not redeemable, fund managers don't need to keep ready cash or sell shares in case share holders suddenly want to sell.

Continue to: Popularity of Closed End Funds

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