# A B C D E F G H I J K L M N O P Q R S T U V W X Y Z
Closed-End Funds

A closed-end fund, or CEF, is an investment structure (not an asset class), organized under the regulations of the Investment Company Act of 1940. It's often confused for a traditional open-end mutual fund that is closed to new investors, but this is not true. A CEF is a type of investment company whose shares are traded on the open market, like a stock or an ETF. Like a traditional mutual fund, a CEF invests in a portfolio of securities and is typically managed by an investment management firm.

CEFs are closed, in the sense that capital does not regularly flow into them when investors buy shares, and it does not flow out when investors sell shares. Instead, like a stock, CEFs hold an initial public offering at their launch. With the capital raised during the initial public offering, the portfolio manager buys securities befitting the fund's investment strategy. After the initial public offering, shares are not traded directly with the sponsoring fund family, as is the case with open-end mutual funds. Shares are traded on an exchange (most are traded on one of the NYSE's exchanges) and other market participants act as the corresponding buyers or sellers. The fund itself does not issue or redeem shares daily.

Because shares trade on a market, the market itself determines the share price. The result is that share prices only by coincidence equal the fund's net asset value (Net asset value = [Fund Assets-Fund Liabilities]/Shares Outstanding).

If the share price is higher than the net asset value, the shares are said to be trading at a "premium." This is typically portrayed as a positive discount, although mathematically that is counterintuitive. For instance, a fund trading at a 2% premium would be shown as "+2%."

If the share price is less than the net asset value, the shares are said to be trading at a "discount." This is typically portrayed with a minus sign, "-2%".

Due to the closed structure, there is no need to raise cash quickly to meet unexpected redemptions, therefore capital is considered to be more stable than in open-end funds. This relatively stable capital base gives rise to two important attributes. First, it makes CEFs a good structure in which to invest illiquid securities, such as emerging-market stocks, municipal bonds, etc. Second, regulators allow the CEFs to issue debt and preferred shares, with strict limits on leverage: Debt can be issued in an amount up to 50% of net assets and preferred shares can be issued in an amount up to 100% of its net assets. Both of these attributes provide CEFs with greater potential to increase shareholder value. Of course, the added reward does not come without added risk.

Sponsors Center
Sponsored Links