Before going for Mutual fund investment it is important to know what are its types and how does it work. Mutual funds are normally differentiated based on its structure that are open ended and closed ended mutual funds. Proper understanding of how both these funds work can help you take the right decision and building a portfolio. Here is FinanceShed with a detailed analysis of Open-ended and Closed-ended Funds.
Open-ended funds are nothing but what you say Mutual Fund. These funds are not traded freely in the open market and also doesn’t carry any limit as to how many units can be issued. They are traded on Net Asset Value calculation and at the end of the day, they are priced based on units purchased and sold during the day.
Closed-ended funds function like an Exchange Traded Fund. Closed-ended funds are traded in the market through an IPO to raise money and then traded in the open market. The price of the shares are affected by the supply and demand of the shares during the period under consideration and also the set of units of shares in the market is fixed.
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Key differences between Open-ended Funds and Closed-ended Funds
Time For Entry And Exit
Open Ended funds are generally popular amongst typical investors as it permits them to enter and exit at any time. Close-ended funds have a fixed number of shares that are purchased from other investors and have a fixed timeline to enter and exit. Thus, in this sense, Open-ended funds give more flexibility to investors as compared to closed-ended funds.
Buying And Selling
As earlier discussed, the transactions of Open-ended funds are performed directly through the fund and can be of any number of units. Whereas close-ended ones are initially launched through an IPO subsequent to which they are listed on the stock exchange and work as an exchange-traded fund.
In open-ended funds, the total number of shares for each of the stocks and bonds are multiplied by the closing price and any liabilities associated with the fund are excluded. NAV is arrived at by dividing this value to the total number of shares. Whereas on the other hand prices of the closed-ended funds are determined based on the demand and supply of the units in the given period of time.
As open-ended funds are more like a Mutual fund and thus it understands the goal based planning in portfolio investment. Because of this, it allows smooth Asset allocation or rebalancing of funds and also the structure of the funds can be adjusted in the general market scenario. Such structural changes are not possible in closed-ended funds. In the case of closed-ended funds, the investors would not be aware of the internal details which cannot be helpful for long-run investment strategies or at the time of structural changes.
It is not possible to say which fund is better as it is a totally subjective concept based on personal choices as Open-ended funds may represent a safer choice than closed-end funds, but the closed-end products might produce a better return because of both dividend payments and capital appreciation. It is difficult to say which one is better as it depends on the fund category, fund management & investment style.