What You Need To Know About Close-Ended Mutual Funds

What You Need To Know About Close-Ended Mutual Funds

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Find out what a closed-end fund means and the advantages these funds offer to an investor.

Key Takeaways

  • Close-ended mutual funds collect capital through an IPO. Shares are then traded on the market like stocks.
  • These are stable mutual funds due to a fixed capital collected for the fund.
  • These funds generate Higher returns as compared to open-ended mutual funds.
  • You need a lump sum to invest in these funds.
  • Demand and supply factors affect share prices. You can trade at either a premium/discount with respect to the NAV of the shares.

Planning on investing is always a significant step to help secure a better future for yourself. With several ways to start investing, mutual funds have become one of the most sought-after investment options for most people. Mutual funds can be of different types like open-ended funds, closed-end funds, and interval funds. So, what is a close-ended mutual fund?  In this article, we look at a closed-end fund and the advantages it offers.

What Is A Close-Ended Mutual Fund?

A closed-end mutual fund refers to a type of mutual fund where the capital is raised through Initial Public Offerings (IPO) by professional mutual fund managers. Once investors pool their capital into these mutual funds, the fund managers oversee the capital and issue securities to their investors in the form of shares. These shares are further listed in a secondary market so that trading can occur based on the supply and demand in that market.

How Do Closed-End Funds Work?

Like any other mutual funds, close-ended mutual funds are managed by investment managers who pool together money from various investors to invest in a mutual fund scheme. Each investor gets a share, which they can easily trade in a secondary market.

The mutual fund investment is offered in the market as a share in the form of a New Fund Offer (NFO). Once all the closed-end fund shares are issued, the fund managers offer no additional shares. The investors can trade their shares like stocks in the market for values that depend upon the maturity period and returns of the specific closed-end mutual fund. The Net Asset Value (NAV) of closed-end mutual funds is calculated at regular intervals, and the trading price of the shares issued to the investors also depends on the demand and supply trends of the market.

The fund managers use the fixed pool of money to conduct their trades and gain returns. Investors, on the other hand, can also partake in trading their fund shares in the secondary market. Closed-end mutual funds operate within a fixed maturity period, making them an ideal investment for the medium to long term. Investors receive their returns at the end of the maturity period.

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Advantages Of Investing In Close-Ended Mutual Funds

With different mutual fund options in the market, let us look into how advantageous your investment in a close-ended mutual fund can be:

  • Stable capital for the fund managers

    Since the investors cannot redeem closed-end funds before a fixed period, the capital which the fund managers collect is stable. Fund managers need not worry about the liquidity of the asset since they have a set period within which they need to invest to earn returns. With stable capital, fund managers can strategise their plans and achieve the investment objectives of their scheme.

  • Market supply and demand-based pricing

    Closed-end funds are sold on the exchange like stocks. As such, investors can trade their shares at prices that might be above the Net Asset Value of the shares. Also, buyers can buy shares at discounted rates, depending upon the NAV of the funds.

  • Flexibility for investors

    Investors are permitted to liquidate their investment per fund norms. They may utilise real-time prices of the fund during the trading day to buy or sell your fund units at the existing market prices.  This feature offers great flexibility to investors by giving them an option to hold on to their shares or sell them off.

Points Of Caution Regarding Close-Ended Mutual Funds

  • It requires a lump sum investment.

    Since closed-end mutual funds require the New Fund Offers to be bought within a specific time in the initial phase, the investment needs to be done at one go. The investment amount can thus be significant, which, in turn, increases the risk of the investor. There are no Systematic Investment Plan options, which help spread the risk across the investment.

  • It is a highly manager driven fund.

    Compared to other mutual fund schemes, with closed-end mutual funds, investors do not get access to the performance analysis. These funds are driven solely by fund managers. At best, investors can investigate the performance of fund managers to analyse the performance of other funds handled by the managers in the past.

How To Invest In A Close-Ended Mutual Fund?

As an investor, you can directly get in touch with various agents and distributors of the mutual funds to know more about the requirements for this investment. A great way to invest is through distributors registered under the Association of Mutual Funds in India (AMFI). This method of investment ensures your investment is carried out through an assured distributor.

A closed-end fund is a great investment plan for investors who can invest a significant sum of money in one go. These mutual funds are ideal for investors with long-term objectives. Closed-end funds provide excellent returns and offer investors a considerable amount of time to hold their investments or trade them in a secondary market. Carefully analyse your fund manager before investing in closed-end mutual funds. An experienced manager leads to better returns.

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*Disclaimer: This article is for information only. We recommend you get in touch with your income tax advisor or CA for expert advice.

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Read up more on Mutual Funds here.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully before investing.

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