What Are Closed-End Funds and Should You Invest in Them?

A closed-ended fund is an actively managed mutual fund whose shares are traded on an exchange, like a stock or an ETF. The funds are termed “closed” since they only raise money once, through an IPO, before being closed to any other share purchases. The fund issues a fixed number of shares and the investment management firm doesn’t create additional shares to meet demand in the market.

A closed-end fund trades on a major stock exchange like a stock. The shares aren’t directly traded through the fund company after the IPO. The fund itself doesn’t redeem or issue shares daily. Investors can buy a closed-ended fund through a registered broker.

The price per share of the closed-end fund is determined by the market forces and is usually different from the NAV (net asset value) per share. The NAV of the fund is calculated by dividing the total net assets by the total number of shares issued. For example, if a closed-end fund owns 50 stocks that have a combined value of $100,000 with $5,000 liabilities and 10,000 shares outstanding, the fund has a NAV of $9.5. If investors are willing to pay only $9 per share of the fund, it's trading at a discount of about 5 percent to its NAV.

A closed-end fund is a good investment since it's actively managed by a professional manager. The funds are usually listed on a major exchange like the NYSE or Nasdaq, which offers the benefit of intra-day liquidity for investors. A closed-end fund can also use leverage to generate higher returns.

A closed-end fund differs from an open-end fund in several ways. An open-end fund constantly issues and redeems shares from investors, while a closed-end fund only raises capital once. The price of a closed-end fund is determined by the market forces since it's traded on a stock exchange. In contrast, the open-end fund’s price per share is determined only once based on the NAV at the end of the trading day.

Investors need to have a brokerage account to buy or sell a closed-end fund, while an open-end fund can be purchased directly from the investment management company.

The best closed-end funds to buy right now are the Cohen & Steers Quality Income Realty Fund, the Pimco Dynamic Credit Income Fund, and the Neuberger Berman High Yield Strategies Fund.