Closed-ended mutual funds
Closed-ended mutual funds are schemes with a fixed maturity period. You can invest in these schemes during the New Fund Offer (NFO) period. After the NFO closes, you cannot purchase units directly from the fund house, although listed units can be traded on a stock exchange.
Unlike open-ended funds, closed-ended mutual funds have a fixed structure and maturity date. Understanding how these funds work, their features, risks, tax treatment and exit options can help you assess whether they suit your investment goals. Compare mutual fund options now!
What are closed-ended funds?
A closed-ended mutual fund is a scheme with a specified maturity period. You can subscribe to the scheme during its NFO period. After the NFO closes, the scheme does not accept fresh subscriptions in the normal manner.
Closed-ended fund units are listed on a recognised stock exchange. You can buy or sell listed units through the secondary market, subject to market liquidity. The market price can differ from the fund's Net Asset Value (NAV) because exchange transactions take place at market-determined prices.
Once the NFO closes, you cannot invest directly in the scheme through the fund house. You can purchase listed units through the stock exchange, subject to availability. Start your SIP and grow your wealth!
How do close-ended funds work?
A closed-ended fund is launched through an NFO by an asset management company (AMC). You can subscribe to the scheme during the specified NFO period.
After the NFO closes, the units are allotted and the scheme operates for its stated maturity period. The units are listed on a recognised stock exchange, allowing investors to trade them during the scheme tenure.
At maturity, the scheme is redeemed according to its terms. If you want to exit before maturity, you can sell your units on the stock exchange, subject to the availability of buyers and prevailing market prices.
When do close-ended mutual funds mature?
Closed-ended mutual funds have a maturity date that is specified when the scheme is launched. The maturity period depends on the scheme's investment objective and terms.
The maturity period also affects how the fund manager manages the portfolio. Since the scheme has a defined tenure, the investment strategy can be planned around the stated objective and maturity date.
If you need to exit before maturity, you can sell listed units on the stock exchange, subject to market liquidity and the price available at the time of sale.
Features of close-ended funds
Closed-ended mutual funds have a fixed structure that differs from open-ended schemes. Consider these features before investing:
- Fixed maturity period: The scheme has a predetermined maturity date.
- Limited investment window: You can subscribe to the scheme during its NFO period.
- Stock exchange listing: Units are listed on a recognised stock exchange after the NFO.
- Limited direct redemption: You cannot normally redeem units directly with the AMC before maturity, subject to the scheme's terms.
- No ongoing SIP facility: You cannot continue adding investments through a regular SIP after the NFO closes.
These features can limit flexibility compared with open-ended mutual funds. They also give the scheme a defined investment period and structure.
Types of investments in close-ended funds
Closed-ended mutual funds can invest in different types of securities depending on their investment objective. Two broad categories are:
1. Bond closed-end funds
These funds primarily invest in bonds and other debt instruments. The key risks include:
- Market risk: Changes in interest rates can affect the value of debt securities.
- Credit risk: The value of a debt security can be affected if the issuer faces difficulty in meeting its obligations.
The level of interest rate and credit risk depends on the securities held by the scheme.
2. Equity closed-end funds
These funds primarily invest in equity and equity-related securities. Their value can fluctuate because of changes in:
- The financial performance of companies in the portfolio
- Industry-specific developments
- Overall market conditions
Equity-oriented closed-ended funds carry market risk. Review the scheme's riskometer and investment objective before investing.
Maturity date of close-ended funds
The maturity period of a closed-ended mutual fund is fixed when the scheme is launched. The scheme's offer document states the tenure, investment objective and other terms.
Unlike open-ended mutual funds, investors cannot normally redeem units directly with the fund house before maturity. However, listed units can be bought or sold on a stock exchange during the tenure, subject to market liquidity.
At maturity, the scheme is redeemed according to its stated terms. The fixed maturity period also gives the fund manager a defined timeframe for managing the portfolio.
Advantages of close-ended funds
Closed-ended mutual funds have certain structural features that can be relevant to investors with a defined investment horizon. These features should be considered alongside the risks and limited exit flexibility.
1. Defined investment period
The scheme has a predetermined maturity period. This gives you a clear timeframe for the investment.
2. Structured portfolio management
The fund manager manages the portfolio according to the scheme's stated investment objective and tenure.
3. Stock exchange listing
Listed units can be traded on a stock exchange before maturity, subject to market liquidity. The trading price can differ from the NAV.
4. Defined investment timeframe
A fixed maturity period provides a predetermined investment timeframe. Check whether the scheme's tenure matches your investment horizon before investing.
How to evaluate close-ended funds before investing
Before investing in a closed-ended fund, review its investment objective, portfolio strategy, risk level and maturity period. The following factors can help you assess a scheme:
1. Fund manager's track record
Review the fund manager's experience and track record in managing similar investment strategies. Past performance does not guarantee future returns.
2. Investment strategy
Read the scheme documents to understand its investment objective and asset allocation. Check whether the scheme focuses on equity, debt or other securities.
3. Risk profile
Review the scheme's riskometer and understand the risks associated with its underlying investments. Equity-oriented schemes can experience market volatility, while debt-oriented schemes can carry interest rate and credit risks.
4. Portfolio quality
Review the securities and asset allocation disclosed by the fund. This can help you understand the scheme's exposure to different types of investments.
5. Fund house
Review the AMC's experience, investment approach and disclosures before selecting a scheme. Do not base your decision only on the reputation of the fund house.
Who should invest in a closed-ended mutual fund?
Closed-ended mutual funds have a fixed maturity period and limited direct redemption options before maturity. Consider the scheme's tenure, investment objective, liquidity and risk level before investing.
You can consider a closed-ended fund if:
- Your investment timeline matches the maturity period: The scheme's tenure should align with when you expect to need the money.
- You understand market risk: Equity-oriented closed-ended funds can experience significant price fluctuations.
- You understand liquidity risk: Selling units before maturity depends on the availability of buyers and the prevailing market price.
- You want a defined investment period: The fixed maturity period provides a predetermined investment timeframe.
5 reasons to use closed-end funds in your portfolio
Closed-ended funds have specific structural features, but they also carry risks related to market fluctuations and liquidity. Consider the following aspects before adding one to your portfolio.
- Defined investment period: The scheme has a predetermined maturity date.
- Professional management: A fund manager manages the scheme according to its stated investment objective.
- Exchange trading: Listed units can be bought or sold on the stock exchange before maturity, subject to market liquidity.
- NAV and market price differences: Units can trade at a price above or below their NAV.
- Diversification: Depending on the scheme, the portfolio can provide exposure to equity, debt or other permitted securities.
The suitability of a closed-ended fund depends on its investment objective, risk level, maturity period and your investment horizon.
Taxability of close-ended mutual funds
The tax treatment of a closed-ended mutual fund depends on the type of fund, the securities held by the scheme and the date of acquisition. Equity-oriented and other mutual fund schemes can have different capital gains tax rules.
For equity-oriented mutual funds, short-term capital gains on specified equity investments are taxed at 20%. Long-term capital gains are taxed at 12.5% on gains exceeding Rs. 1.25 lakh, subject to the conditions under the Income Tax Act.
Tax treatment for debt-oriented and other non-equity mutual funds depends on the applicable provisions, including the rules for specified mutual funds and the date on which the units were acquired.
Tax liability can affect the post-tax returns from a closed-ended fund. Review the applicable tax rules along with the scheme's investment objective, risks and costs. Save taxes with ELSS mutual funds
Disadvantages of close-ended funds
Closed-ended mutual funds have certain limitations that you should understand before investing.
- Limited flexibility: You cannot normally redeem units directly with the AMC before maturity. Early exit requires selling the units on a stock exchange, where applicable.
- Market price risk: The trading price of a listed unit can differ from its NAV. The price you receive when selling can therefore differ from the value indicated by the NAV.
- Liquidity risk: There may not always be sufficient demand to sell units at your preferred price.
- Fixed investment period: The maturity period is predetermined and might not match changing financial needs.
- No ongoing investment facility: You cannot normally make additional investments in the scheme after the NFO closes.
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How to invest in close-ended funds?
You can subscribe to a closed-ended mutual fund during its NFO period through the channels specified by the AMC. Review the scheme documents, investment objective, maturity period, riskometer and applicable costs before investing.
Once the NFO closes, fresh subscriptions are not normally available through the fund house. If the units are listed, you can buy them through the stock exchange during the scheme tenure, subject to market availability.
Before investing, complete the required KYC process and provide the details requested by the AMC or intermediary. Start your SIP and grow your wealth!
Understanding the role of premiums and discounts in close ended funds
Closed-ended mutual fund units traded on a stock exchange can have a market price that differs from their NAV. When the market price is higher than the NAV, the unit trades at a premium. When the market price is lower than the NAV, it trades at a discount.
These differences can affect the price at which you buy or sell units. Before trading, review the fund's NAV, market price, trading volume and liquidity. Do not assume that a premium or discount will move in a particular direction. Start SIP with just Rs. 100
Things to know before investing in close-ended mutual funds
Before investing in a closed-ended mutual fund, review the scheme's maturity period, investment objective, risks, liquidity and tax treatment. These factors can affect how the investment fits your financial goals.
- Investment horizon: Check whether the scheme's maturity period matches your investment timeline.
- Market research: Review the fund's investment objective, portfolio, riskometer, costs and fund manager's experience.
- Exit strategy: Understand how you can exit before maturity and the risks associated with selling units on the stock exchange.
- Taxation: Review the tax treatment applicable to the scheme and your investment.
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Conclusion
Closed-ended mutual funds have a fixed maturity period and a limited subscription window. Their units can be listed on stock exchanges, allowing investors to trade them before maturity, subject to market liquidity.
Before investing, review the scheme's investment objective, asset allocation, riskometer, maturity period, liquidity, costs and tax treatment. Ensure that the scheme's tenure and risk level align with your investment goals. Choose from 4,000+ mutual fund options at Bajaj Broking website and start investing today!
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