We all know the frustration of arriving at a store excited to buy something only to realize it’s sold out. This situation can also happen with a mutual fund. You might get excited about its management team, approach, or cheap price tag only to realize you can’t buy it.
But like a sold-out item returning to shelves, a mutual fund can eventually become available for purchase again. For instance, Vanguard Dividend Growth VDIGX, which has a Morningstar Analyst Rating of Gold, reopened to new investors on Aug. 1, 2019, after being closed for over three years.
This might invite questions about how and why a fund closes and reopens. Let’s break down the process, why it happens, and how it affects you.
What happens when a mutual fund closes? When a mutual fund closes, investors can't buy more of it. Current investors can remain invested in the fund, however, and they are also welcome to sell their shares.
A fund has two options to close. First, it might close only to new investors, meaning if you already own the fund somewhere like an individual investment account or 401(k) plan, you can still buy more. It can also close to all investors, so no one can purchase more. The fund might first close to new investors and then all investors, or it might close to both at the same time.
Once a fund’s closure is announced, it might close that day or give investors some time to invest more money.
Why would a fund close? Closing a fund is one way to slow or stop the flow of new money that the fund's manager must put to work. By closing the fund, its management has stopped one way it can increase its assets, or become larger.
Why would a fund’s management want this? It’s done to protect the fund's investors. If a fund's asset base gets too large to effectively execute its investing style, it could cause the managers to stray from their process.
This concern is common for smaller-cap funds, especially when small-cap stocks are on a roll. As the small-cap fund’s assets grow, it’s harder to build meaningful positions in tiny businesses because larger trades are more likely to have an impact on the underlying stocks' prices. It can also be a concern for funds that invest in emerging-markets securities or other areas of the market that are less liquid. And changing the process to accommodate more money--for instance, moving toward more-liquid investments or running the fund in a less concentrated style--increases the probability that the fund will behave differently going forward, dulling its merit for shareholders.
Note that these concerns (and capacity, generally) apply less to passive funds and exchange-traded funds.
At what point does a fund close? Unfortunately, there's no magic number.
A firm or management team will consider many factors when determining an individual strategy’s ideal capacity. The size and capacity of the research team and the liquidity of the area the fund invests in are big considerations.
Funds don't have to close. A firm or management team might be greedy and keep a fund open longer to maximize profits over protecting investor interests.
What happens when a fund reopens? When reopening a fund, the fund company will usually announce when the fund will again be available for purchase. (Here's the press release Vanguard sent out when it reopened Vanguard Dividend Growth.)
Reopening often follows a spell of poor performance or large outflows from many investors selling their shares. Both events reduce the fund's assets, so if the managers can run more money just as potently, they might let in newcomers.
In the press release, Vanguard said cash flows had subsided and market conditions had changed since the fund’s 2016 closing. As such, Vanguard believed there was ample capacity to reopen the fund. Our analyst points out that even though Vanguard Dividend Growth is larger than ever, the strategy is likely able to accommodate scale because it owns big companies where buying and selling aren’t concerns.
How can I check to see if a fund is open? Type the fund's name or ticker in the search bar in the upper-left corner of the Morningstar.com home page. You will be redirected to the fund's Quote page. Above the Morningstar's Analysis section, the Status data point shows whether the fund is open or closed.
- source: Morningstar Analysts
Is it good or bad that my fund is closing? And should I act? As explained above, closing a fund usually protects current investors, which is a good thing (and if the fund closed late and has a larger asset base, closing is still better than not). Unless you want to purchase more, you don't have to do anything.
However, investors might consider tempering expectations for the fund’s future performance. Recall that asset-base growth affects a fund’s size; large gains often result from being in a hot part of the market (think large-cap growth the past 10 years). Your fund might fare worse if upcoming environments are different.
A good fund that I don't own is closing or reopening soon. Should I get in? If you were eyeing it, and if it makes sense for your portfolio, then consider it. But if your only reason for purchasing it is that it's closing or has recently reopened, you probably don't need it.
Also, remember to keep your return expectations in check. If the closing fund is in a high-flying area, buckle down for a possible cooldown. The opposite could apply to a reopening fund, which might have some extra appreciation potential from investing in an underperforming area.
We like some funds that recently became available to new investors. Below are six equity funds with Morningstar Analyst Ratings of Gold or Silver.
Again, you’ll want to consider any potential fund purchase within the context of your larger investment portfolio. If you’re looking for additional insight, we recently discussed some of these recently reopened funds.