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Fixed-incomeinvestorsareoftenattractedtoclosed-endfundsbecausemanyofthefundsaredesignedtoprovideasteadystreamofincome,usuallyonamonthlyorquarterlybasisasopposedtothebiannualpaymentsprovidedbyindividualbonds.

Perhapstheeasiestwaytounderstandthemechanicsofclosed-endmutualfundsisviaacomparisontoopen-endmutualandexchange-tradedfundswithwhichmost

investorsarefamiliar.Allthesetypesoffundspooltheinvestmentsofnumerousinvestorsintoasinglebasketofsecuritiesorfundportfolio.Whileatfirstglanceitmayseemlikethesefundsarequitesimilar-astheysharesimilarnamesandafewcharacteristics-fromanoperationalperspective,theyareactuallyquitedifferent.Herewe'lltakealookathowclosed-endfundswork,andwhethertheycouldworkforyou.(Forageneraloverviewofmutualfunds,seeourMutualFundBasicsTutorial.)

Open-Endvs.Closed-EndOpen-endfundsharesareboughtandsolddirectlyfromthemutualfundcompany.Thereisnolimittothenumberofavailablesharesbecausethefundcompanycancontinuetocreatenewshares,asneeded,tomeetinvestordemand.Ontherever

seside,aportfoliomaybeaffectedifasignificantnumberofsharesisredeemedquicklyandthemanagerneedstomaketrades(sell)tomeetthedemandsforcashcreatedbytheredemptions.Costsassociatedwiththistradingactivityaresharedbyallinvestorsinthefund,sotheinvestorswhoremaininthefundsharethefinancialburdencreatedbythetradingactivityofinvestorswhoareredeemingtheirshares.

Ontheotherhand,closed-endfundsoperatemorelikeexchange-tradedfunds.Theyarelaunchedthroughaninitialpublicoffering(IPO)thatraisesafixedamountofmoneybyissuingafixednumberofshares.ThefundmanagertakeschargeoftheIPOproceedsandinveststhesharesaccordingtothefund'smandate.Theclosed-endfundisthenconfiguredintoastockthatislistedonanexchangeandtradedinthesecondarymarket.Likeallshares,thoseofaclosed-endfundar

eboughtandsoldontheopenmarket,soinvestoractivityhasnoimpactonunderlyingassetsinthefund'sportfolio.Thistradingdistinctioncanbeanadvantageformoneymanagersspecializinginsmall-capstocks,emergingmarkets,high-yieldbondsandotherlessliquidsecurities.Onthecostsideoftheequation,eachinvestorpaysacommissiontocoverthecostofpersonaltradingactivity(thatis,thebuyingandsellingofaclosed-endfund'ssharesintheopenmarket).(Tolearnmore,seeIntroductionToExchange-TradedFunds.)

Likeopen-endandexchange-tradedfunds,closed-endfundsareavailableinawidevarietyofofferings.Stockfunds,bondfundsandbalancedfundsprovideafullrangeofassetallocationoptions,andbothforeignanddomesticmarketsarerepresented.Regardlessofthespecificfundchosen,closed-endfunds(unlikesom

eopen-endandETFcounterparts)areallactivelymanaged.Investorschoosetoplacetheirassetsinclosed-endfundsinthehopethatthefundmanagerswillusetheirmanagementskillstoaddalphaanddeliverreturnsinexcessofthosewhichwouldbeavailableviainvestinginanindexproductthattrackedtheportfolio'sbenchmarkindex.(Tolearnmore,readWordsFromTheWiseOnActiveManagement.)

PricingandTrading:TakeNoteoftheNAVPricingisoneofthemostnotabledifferentiatorsbetweenopen-endandclosed-endfunds.Open-endedfundsarepricedonceperdayatthecloseofbusiness.Everyinvestormakingatransactioninanopen-endfundonthatparticulardaypaysthesameprice,calledthenetassetvalue(NAV).Closed-endfunds,likeETFs,haveanNAVaswell,butthetradingprice,whichisquotedthroughoutthedayo

nastockexchange,maybehigherorlowerthanthatvalue.Theactualtradingpriceissetbysupplyanddemandinthemarketplace.ETFsgenerallytradeatorclosetotheirNAVs.

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IfthetradingpriceishigherthantheNAV,closed-endfundsandETFsaresaidtobetradingatapremium.Whenthisoccurs,investorsareplacedintheratherprecariouspositionofpayingtopurchaseaninvestmentthatisworthlessthanthepricethatmustbepaidtoacquireit.

IfthetradingpriceislowerthantheNAV,thefundissaidtobetradingata

discount.Thispresentsanopportunityforinvestorstopurchasetheclosed-endfundorETFatapricethatislowerthanthevalueoftheunderlyingassets.Whenclosed-endfundstradeatasignificantdiscount,thefundmanagermaymakeanefforttoclosethegapbetweentheNAVandthetradingpricebyofferingtorepurchasesharesorbytakingotheraction,suchasissuingreportsaboutthefund'sstrategytobolsterinvestorconfidenceandgenerateinterestinthefund.

Closed-EndFunds'UseofLeverageClosed-endfundshaveanotherquirkuniquetotheirfundstructure.Theyoftenmakeuseofborrowings,which,whileaddinganelementofriskwhencomparedtoopen-endfundsandETFs,canpotentiallyleadtogreaterrewards.Thisleverageisthemainreasonwhyclosed-endfundstypicallygeneratemoreincomethanopen-

endandexchange-tradedfunds.

WhyClosed-EndFundsAren'tMorePopularAccordingtotheClosed-EndFundAssociation,closed-endfundshavebeenavailablesince1893,morethan30yearspriortotheformationofthefirstopen-endfundintheUnitedStates.Despitetheirlonghistory,however,closed-endfundsarefaroutnumberedbyopen-endedfundsinthemarket.

Therelativelackofpopularityofclosed-endfundscanbeexplainedbythefactthattheyareasomewhatcomplexinvestmentvehiclethattendstobelessliquidandmorevolatilethanopen-endedfunds.Also,fewclosed-endfundsarefollowedbyWallStreetfirmsorownedbyinstitutions.Afteraflurryofinvestmentbankingactivitysurroundinganinitialpublicofferingforaclosed-endfund,r

esearchcoveragenormallywanesandtheshareslanguish.

Forthesereasons,closed-endfundshavehistoricallybeen,andwilllikelyremain,atoolusedprimarilybyrelativelysophisticatedinvestors.

ConclusionInvestorsputtheirmoneyintoclosed-endfundsformanyofthesamereasonsthattheyputtheirmoneyintoopen-endfunds.Mostareseekingsolidreturnsontheirinvestmentsthroughthetraditionalmeansofcapitalgains,priceappreciationandincomepotential.Thewidevarietyofclosed-endfundsonofferandthefactthattheyareallactivelymanaged(unlikeopen-endedfunds)makeclosed-endfundsaninvestmentworthconsidering.Fromacostperspective,theexpenseratioforclosed-endfundsmaybelowerthantheexpenseratioforcomparableopen-endedfunds.