Closed-end fund

Last updated

A closed-end fund, also known as a closed-end mutual fund, [1] [2] [3] [4] is an investment vehicle fund that raises capital by issuing a fixed number of shares at its inception, and then invests that capital in financial assets such as stocks and bonds. After inception it is closed to new capital, although fund managers sometimes employ leverage. Investors can buy and sell the existing shares in secondary markets. [5] [6] [7]

Contents

In the United States, closed-end funds sold publicly must be registered under both the Securities Act of 1933 and the Investment Company Act of 1940. [8]

U.S.-based closed-end funds are referred to under the law as closed-end companies and form one of three SEC-recognized types of investment companies along with mutual funds and unit investment trusts. [7]

Like their better-known open-ended cousins, closed-end funds are usually sponsored by a fund management company. The fund's charter, prospectus and the applicable government regulations specify the types of investments the fund manager is permitted to buy. Some funds invest in stocks, others in bonds, and some in very specific things (for instance, tax-exempt bonds issued by the state of Florida in the USA).

Distinguishing features

A closed-end fund differs from an open-end mutual fund in that:

Another distinguishing feature of a closed-end fund is the common use of leverage (gearing) to obtain new money to invest after the fund's inception. This can be done by issuing preferred stock, commercial paper or rights offerings. Leverage amplifies gains when the market prices of the fund's investments rise, but it also amplifies losses when market prices decrease. This increases the volatility of a leveraged fund's net asset value, compared with an unleveraged peer. [10] [11]

The amount of leverage a fund uses is expressed as a percent of total fund assets (e.g. if it has a 25% leverage ratio, that means that for each $100 of total assets under management, $75 is equity and $25 is debt). In some cases, fund managers charge management fees based on the total managed assets of the fund, which includes leverage. This further reduces the income benefit of leverage to the common shareholder, while retaining the additional volatility.

Leveraged funds can seem to have higher expense ratios—a common way that investors compare funds—than their non-leveraged peers. Some investment analysts advocate that expenses attributable to the use of leverage should be considered a reduction of investment income rather than an expense, and publish adjusted ratios.

Since stock in closed-end funds is traded like other stock, an investor trading them will pay a brokerage commission similar to that paid when trading other stocks (as opposed to commissions on open-ended mutual funds, where the commission will vary based on the share class chosen and the method of purchasing the fund). In other words, closed-end funds typically do not have sales-based share classes with different commission rates and annual fees. The main exception is loan-participation funds.

Comparison to exchange-traded funds (ETFs)

Closed-end funds are traded on exchanges, and in that respect they are like exchange-traded funds (ETFs), but there are important differences between these two kinds of security. The price of a closed-end fund's shares is completely determined by investor demand, and this price often diverges substantially from the NAV of the fund assets. In contrast, the market price of an ETF trades in a narrow range very close to its net asset value, because the structure of ETFs allows major market participants to redeem shares of an ETF for a "basket" of the fund's underlying assets. [12] This feature could in theory lead to potential arbitrage profits if the market price of the ETF were to diverge substantially from its NAV. The market prices of closed-end funds are often 10% to 20% higher or lower than their NAV, while the market price of an ETF is typically within 1% of its NAV. Since the market downturn of late 2008, a number of fixed income ETFs have traded at premiums of roughly 2% to 3% above their NAV.

Discounts and premiums

Closed-end fund shares often trade at prices that deviate from the market values of the securities in their portfolios. Such funds have a long history of trading at a discount to market value, although they may also trade at a premium. [13] [14] [15] Reasons for the tendency towards discount pricing are thought to include:

However, financial economists Zvi Bodie, Alex Kane and Alan J. Marcus have opined that the various hypotheses put forth do not fully explain the persistence of discount pricing. [9] : 86 

The Herzfeld Closed-End Average traded at a discount to net asset value during most of calendar year 2022 [21] and all of 2023, [22] according to the American weekly financial newspaper Barron's. This average measures 15 equally-weighted closed-end funds based in the U.S. that invest primarily in U.S. equities.

Examples

Among the biggest, long-running closed end funds are:

See also

Related Research Articles

Passive management is an investing strategy that tracks a market-weighted index or portfolio. Passive management is most common on the equity market, where index funds track a stock market index, but it is becoming more common in other investment types, including bonds, commodities and hedge funds.

A stock market bubble is a type of economic bubble taking place in stock markets when market participants drive stock prices above their value in relation to some system of stock valuation.

An index fund is a mutual fund or exchange-traded fund (ETF) designed to follow certain preset rules so that it can replicate the performance ("track") of a specified basket of underlying investments. While index providers often emphasize that they are for-profit organizations, index providers have the ability to act as "reluctant regulators" when determining which companies are suitable for an index. Those rules may include tracking prominent indexes like the S&P 500 or the Dow Jones Industrial Average or implementation rules, such as tax-management, tracking error minimization, large block trading or patient/flexible trading strategies that allow for greater tracking error but lower market impact costs. Index funds may also have rules that screen for social and sustainable criteria.

<span class="mw-page-title-main">S&P 500</span> American stock market index

The Standard and Poor's 500, or simply the S&P 500, is a stock market index tracking the stock performance of 500 of the largest companies listed on stock exchanges in the United States. It is one of the most commonly followed equity indices and includes approximately 80% of the total market capitalization of U.S. public companies.

A mutual fund is an investment fund that pools money from many investors to purchase securities. The term is typically used in the United States, Canada, and India, while similar structures across the globe include the SICAV in Europe, and the open-ended investment company (OEIC) in the UK.

An exchange-traded fund (ETF) is a type of investment fund that is also an exchange-traded product, i.e., it is traded on stock exchanges. ETFs own financial assets such as stocks, bonds, currencies, debts, futures contracts, and/or commodities such as gold bars. The list of assets that each ETF owns, as well as their weightings, is posted on the website of the issuer daily, or quarterly in the case of active non-transparent ETFs. Many ETFs provide some level of diversification compared to owning an individual stock.

Net asset value (NAV) is the value of an entity's assets minus the value of its liabilities, often in relation to open-end, mutual funds, hedge funds, and venture capital funds. Shares of such funds registered with the U.S. Securities and Exchange Commission are usually bought and redeemed at their net asset value. It is also a key figure with regard to hedge funds and venture capital funds when calculating the value of the underlying investments in these funds by investors. This may also be the same as the book value or the equity value of a business. Net asset value may represent the value of the total equity, or it may be divided by the number of shares outstanding held by investors, thereby representing the net asset value per share.

A unit trust is a form of collective investment constituted under a trust deed. A unit trust pools investors' money into a single fund, which is managed by a fund manager. Unit trusts offer access to a wide range of investments, and depending on the trust, it may invest in securities such as shares, bonds, gilts, and also properties, mortgage and cash equivalents. Those investing in the trust own "units", whose price is called the "net asset value" (NAV). The number of these units is not fixed and when more is invested in a unit trust, more units are created.

Gold exchange-traded products are exchange-traded funds (ETFs), closed-end funds (CEFs) and exchange-traded notes (ETNs) that are used to own gold as an investment. Gold exchange-traded products are traded on the major stock exchanges including the SIX Swiss Exchange, the Bombay Stock Exchange, the London Stock Exchange, the Paris Bourse, and the New York Stock Exchange. Each gold ETF, ETN, and CEF has a different structure outlined in its prospectus. Some such instruments do not necessarily hold physical gold. For example, gold ETNs generally track the price of gold using derivatives.

<span class="mw-page-title-main">TrimTabs Investment Research</span>

TrimTabs Investment Research, Inc. is a leading independent institutional research firm focused on equity market liquidity based in Sausalito, California.

An inverse exchange-traded fund is an exchange-traded fund (ETF), traded on a public stock market, which is designed to perform as the inverse of whatever index or benchmark it is designed to track. These funds work by using short selling, trading derivatives such as futures contracts, and other leveraged investment techniques.

<span class="mw-page-title-main">United States Oil Fund</span> Oil-tracking exchange-traded fund

The United States Oil Fund is an exchange-traded fund (ETF) that attempts to track the price of West Texas Intermediate Light Sweet Crude Oil. It is distinguished from an exchange-traded note (ETN) since it represents an ownership claim on underlying securities that the fund has packaged. USO invests in oil future contracts that are traded on regulated futures exchanges.

A Business Development Company ("BDC") is a form of unregistered closed-end investment company in the United States that invests in small and mid-sized businesses. This form of company was created by the US Congress in 1980 in the amendments to the Investment Company Act of 1940. Publicly filing firms may elect regulation as BDCs if they meet certain requirements of the Investment Company Act.

AdvisorShares Investments is a US-based investment management firm based in Bethesda, Maryland which offers actively managed exchange-traded funds (ETFs) through the AdvisorShares Trust. AdvisorShares partners with third party financial advisers who already manage clients’ assets to package their investment strategy using exchange-traded funds. As part of promoting its funds it also provides educational support to help financial advisors and investors understand actively managed ETFs and their underlying investment strategies.

An exchange-traded product (ETP) is a regularly priced security which trades during the day on a national stock exchange. ETPs may embed derivatives but it is not a requirement that they do so – and the investment memorandum should be read with care to ensure that the pricing methodology and use of derivatives is explicitly stated. Typically, individual underlying securities, such as stocks and bonds, are not considered ETPs.

<span class="mw-page-title-main">SPDR Gold Shares</span>

SPDR Gold Shares is part of the SPDR family of exchange-traded funds (ETFs) managed and marketed by State Street Global Advisors. For a few years, the fund was the second-largest exchange-traded fund in the world, and it was briefly the largest. As of the close of 2014, it dropped out of the top ten.

<span class="mw-page-title-main">Investment fund</span> Way of investing money alongside other investors

An investment fund is a way of investing money alongside other investors in order to benefit from the inherent advantages of working as part of a group such as reducing the risks of the investment by a significant percentage. These advantages include an ability to:

The SPDR S&P 500 ETF trust is an exchange-traded fund which trades on the NYSE Arca under the symbol SPY. SPDR is an acronym for the Standard & Poor's Depositary Receipts, the former name of the ETF. It is designed to track the S&P 500 stock market index. This fund is the largest and oldest ETF in the world. SPDR is a trademark of Standard and Poor's Financial Services LLC, a subsidiary of S&P Global. The ETF's CUSIP is 78462F103 and its ISIN is US78462F1030. The trustee of the SPDR S&P 500 ETF Trust is State Street Bank and Trust Company. The fund has a net expense ratio of 0.0945%.

<span class="mw-page-title-main">Cboe Canada</span> Canadian Stock Exchange

Cboe Canada is a stock exchange based in Toronto. Part of the Cboe Global Markets network, the exchange has over 260 listings for public companies, exchange-traded funds (ETFs), Canadian Depositary Receipts (CDRs), Special Purpose Acquisition Companies (SPACs), and closed-end funds. Cboe Canada handles 15% of the volume traded across Canadian marketplaces, including 20% of Canadian ETF transactions.

Hayne Leland is an economist and professor emeritus at the University of California, Berkeley. Prior to becoming emeritus, he was the Arno Rayner Professor of Finance at the Haas School of Business. Before joining Berkeley, Leland was an assistant professor in economics at Stanford University, and he has held visiting professorships at the University of California, Los Angeles and the University of Cambridge. He received his A.B. from Harvard College, followed by an M.Sc.(Econ) at the London School of Economics and a Ph.D. in economics from Harvard. He received an honorary doctorate degree from the University of Paris (Dauphine) in 2007.

References

  1. ↑ https://www.investopedia.com/articles/mutualfund/07/closed_end_funds.asp
  2. ↑ https://www.broadridgeadvisor.com/kt/trns.aspx?xd=IV13&xsl=content&il=tm&firm=Weinberg%20Lieberman%20%26%20Co%2E
  3. ↑ https://corporatefinanceinstitute.com/resources/wealth-management/closed-end-mutual-funds/
  4. ↑ https://corporatefinanceinstitute.com/resources/career-map/sell-side/capital-markets/open-end-vs-closed-end-mutual-funds/
  5. 1 2 Thau, Annette (2001). The Bond Book. New York: McGraw Hill. pp. 340–341. ISBN   0-07-135862-5.
  6. ↑ Lemke, Lins and Smith, Regulation of Investment Companies, §9.05 (Matthew Bender, 2014 ed.).
  7. 1 2 3 "Closed-End Fund Information". SEC.gov. U.S. Securities and Exchange Commission. 2013-01-16. Retrieved 2015-12-16.
  8. ↑ Lemke, Lins and Smith, Regulation of Investment Companies, §5.02[2][b] (Matthew Bender, 2014 ed.).
  9. 1 2 3 4 Bodie, Zvi; Kane, Alan; Marcus, Alan J. (2010). Essentials of Investments (eight ed.). New York: McGraw Hill/Irwin. p. 85. ISBN   978-0-07-338240-1.
  10. ↑ Braham, Lewis (May 1, 2023). "Closed-End Bond Funds Sell at Steep Discounts". Barron's.
  11. ↑ Thau p. 340-341.
  12. ↑ Investopedia (2015-05-28). "What is the difference between an ETF's net asset value (NAV) and its market price?". Investopedia. Retrieved 2016-12-10.
  13. 1 2 Lee, Charles M.; Shliefer, Andre; Thaler, Richard H. (March 1991). "Investor Sentiment and the Closed-End Fund Puzzle". The Journal of Finance. XLVI (1): 75–109.{{cite journal}}: CS1 maint: multiple names: authors list (link)
  14. ↑ "Investor Sentiment and the Closed-End Fund Puzzle" (PDF). Archived from the original (PDF) on 2010-07-06. Retrieved 2010-12-01. accessed on 31/10/11
  15. ↑ Forsythe, Randall. "Play the Closed-End Fund Game with the Pros". Barron's. Retrieved 7 May 2023.
  16. ↑ "Lee et al p. 78".{{cite journal}}: Cite journal requires |journal= (help)
  17. ↑ Herzfeld, Thomas J. (1993). Herzfeld's Guide to Closed-End Funds. New York: McGraw-Hill. p. 8. ISBN   0-07-028435-0.
  18. 1 2 3 Herzfeld p. 8-17.
  19. ↑ Forsyth, Randall (April 14, 2021). "Play the Closed-End Fund Game with the Pros". Barron's/Dow Jones. Retrieved 7 May 2023.
  20. ↑ "Lee et al p. 78-79".{{cite journal}}: Cite journal requires |journal= (help)
  21. ↑ "Tracking Closed-End Funds". Barron's Market Lab newsletter. December 31, 2022.
  22. ↑ "Tracking Closed-End Funds". Barron's Market Lab newsletter. January 1, 2024.
This page is based on this Wikipedia article
Text is available under the CC BY-SA 4.0 license; additional terms may apply.
Images, videos and audio are available under their respective licenses.