Understanding closed and open funds
Closed vs. Open-Ended Funds: An Overview
Wall Street can be a complicated place. It is full of products that even some experts don’t understand, and just like the $ 6.2 billion loss to “London Whale” that took place at JP Morgan in 2012 – sometimes complicated investments produce unexpected results. Many of the more complex investment products aren’t suitable for most retail or part-time investors, but that doesn’t mean stocks and mutual funds are all available to you.
Open funds may be a safer choice than closed funds, but closed products can produce a better return, combining both dividend payments and capital appreciation. Of course, investors should always compare individual products within an asset class; some open-ended funds may be riskier than some closed-end funds.
Key points to remember
- Open funds may be a safer choice than closed funds, but closed products can produce a better return, combining both dividend payments and capital appreciation.
- A closed-end fund works much more like an exchange-traded fund (ETF) than a mutual fund.
- Open-end funds are what you call a mutual fund.
Closed-end funds (CEEs) may look the same, but they are actually quite different. A closed-end fund works much more like an exchange-traded fund (ETF) than a mutual fund. It is initiated via an IPO in order to raise funds, and then traded in the open market, just like a stock or an ETF. It only issues a set number of shares and, although their value is also based on the net asset value, the actual price of the fund is affected by supply and demand, which allows it to trade at prices. greater or less than its actual value.
At the end of 2020, more than $ 279 billion were held in the closed-end fund market, which is little known to retail investors. Some funds, like the BlackRock Corporate High Yield Fund VI (HYT), pay a dividend close to 8%, making these funds an attractive choice for income investors.
Investors should know a key fact about closed-end funds: Almost 70% of these products use leverage as a way to generate more earnings. Using borrowed money to invest can be risky, but it can also produce big returns. Closed-end funds recorded an average return of 12.4% in 2017, reports CEF Insider. And “many CEFs are poised to maintain performance,” predicts Michael Foster, senior research analyst for Contrarian Outlook in Jericho, New York.
Many investment products are not a single product, but rather a collection of individual products. Just like you wear different clothes that make up your entire wardrobe, products like mutual funds and ETFs do the same thing by investing in a collection of stocks and bonds to make up the entire fund.
There are two types of these products on the market. Open-end funds are what you call a mutual fund. They have no limit as to the number of shares they can issue. When an investor buys shares of a mutual fund, other shares are created and when someone sells their shares, the shares are taken out of circulation. If a large number of shares are sold (called a redemption), the fund may have to sell some of its investments in order to pay the investor.
You can’t watch an open fund the same way you watch your stocks because they don’t trade in the open market.
At the end of each trading day, the price of the funds is revalued according to the number of shares bought and sold. Their price is based on the total value of the fund or the net asset value (NAV).
Closed funds vs open funds