Based on the investment structure of a mutual fund it can be categorised as either an open ended or closed end mutual fund.
People often ask which is better, open ended or closed end mutual funds. In this article, you will learn the difference between open-ended and closed-end mutual funds to know which is better.
What are open ended mutual funds?
Open ended mutual funds are those schemes which are available for subscription and redemption on every business day throughout the year. It does not have any maturity date.
This means open ended mutual funds can be bought and sold anytime. These are the most common forms of investment in mutual funds in India.
The best part of an open-ended mutual fund is that there is no maximum limit up to which funds can be collected by AMC for investment in securities. It means the AMC does not have any restriction on the number of shares the fund can issue in order to raise money for investment.
As investors can redeem anything based on their choice, fund managers calculate net asset value (NAV) daily at the end of the trading day based on the underlying value of the securities the fund is holding.
Open ended funds can be redeemed anytime at the prevailing net asset value (NAV).
What are closed end mutual funds?
In contrast, a closed-end mutual fund scheme has a maturity date and it can be subscribed only during the initial offer period. These types of mutual funds are offered for a specific period, within that period it can not be redeemed. This means, it’s similar to fixed deposits, where you have a lock in period to get the maximum return. The unit capital of a closed end fund and number of units to sell is fixed.
A closed-end fund raises a fixed amount of capital only once through an NFO (New Fund Offer) by issuing a fixed number of shares to the unit holders who want to participate.
However, these closed-end funds are traded in our stock exchanges just like stocks so that any investor who wants to exit before maturity can sell their units on the stock exchange.
The value of the closed end fund is based on NAV but if you decide to sell or buy from a stock exchange, then the value of the fund will not be determined based on the net asset value, the price will be purely based on supply and demand on that day at a stock exchange. You can get a price above (premium) or below (discount) the real value of the fund based on how the supply and demand of the fund works on that day in the market.
Best examples of closed-end mutual funds are index funds and exchange traded funds.
Open ended funds are not traded in stock exchanges.
In some cases, closed end funds become open ended when after completion of the tenure, with the consent of the investors, the AMC transfers funds after maturity to another open ended fund.
Difference between open-ended and closed-end mutual funds
Here are the differences between a closed end and open ended mutual funds;
| Particulars | Closed end mutual funds | Open ended mutual funds |
| liquidity | You have a lock in period in closed end funds. You can not redeem the fund within that time period. | You can buy and sell units of an open ended fund anytime based on that day’s NAV. Only exception is ELSS, where you have a lock for a period of 3 years. |
| Investing style | You can only invest during the initial period of offer, referred to as new fund offer (NFO). You can not invest through systematic investment plans (SIPs). | You can invest in lump sum or through a systematic investment plan (SIPs). |
| Minimum investment required | In general, fund houses require investors to invest a minimum amount of Rs 5000. | You can invest as low as Rs 500 to Rs 1000 based on your choice. |
| Rupee cost averaging | As they do not accept any investing after launch of the fund, no averaging facility is available in a closed end fund. | Through a systematic investment plan (SIP), you can take advantage of rupee cost averaging. You can invest in a lump sum when the market is down to get more units at a lower market value. |
| Track record | Track record is not available | Investors can review the performance of the fund over different market cycles on account of availability of historical data. |
Based on flexibility and liquidity factor, we believe that an open ended fund is a better choice in comparison to a closed end mutual fund. If you have a financial goal to achieve through a systematic investment plan (SIPs), then the only choice left is an open ended mutual fund.
Due to these key differences between closed end and open ended mutual funds, many investors prefer to go for open ended mutual funds.
Disclaimer: In addition to the disclaimer below, please note, this article is for information purposes only. Mutual Fund investments are subject to market risks, read all scheme related documents carefully before investing. Any mutual fund listed in the document or in our website does not guarantee fund performance or its underlying creditworthiness. Specific investment needs and other factors have to be taken into account while designing a mutual fund portfolio. Readers seeking to engage in investing should seek out extensive education on the topic and help of professionals.
