QUESTION: When is a mutual fund not a mutual fund?
Answer: When it is a closed-end fund.
For millions of people, closed-end funds are the mystery products
of the mutual-fund industry. With names that connote exotic global
settings, such as the brand new "Templeton Russia Fund," which
began trading Sept. 13, or describe entire economic sectors, such
as the "Pilgrim Regional Bankshares Fund," closed-end funds tend to
be overlooked by investors. Yet, in terms of return on investment
and profits over time, they can be moneymakers.
"This has been and continues to be a very good year for closed-end
funds," says Patrick Winton, editor of the Closed-End Fund Digest
and Real Estate Securities, a monthly newsletter published in Santa
Barbara, Calif. "We have four model portfolios for closed-end
funds, and all are up this year," Mr. Winton says. The balanced
portfolio for equities is up 11 percent this year. The global
growth portfolio is up 13.2 percent. The taxable income portfolio
is up 12.4 percent. And the tax-free portfolio is up 14.5 percent.
Although all these lag behind the Standard & Poor's 500 stock
index, which is up around 25 percent this year, fans of closed-end
funds say a slightly slower pace isn't as important as it may seem.
And the reason, they say, is the nature of closed-end funds.
Similar to publicly traded stocks
Closed-end funds have characteristics of both mutual funds and
publicly-traded stocks. A closed-end fund trades in the open market
exactly the way shares of publicly traded companies do. That means,
says Thomas J. Herzfeld, who heads up Thomas J. Herzfeld Advisors
Inc., a brokerage-consulting firm in Miami, that savvy investors
can profit by buying shares of closed-end funds at a discount to
their net asset value and selling them at a premium.
Compare this with a typical open-ended mutual fund, which is
continually offering new shares. The purchase price of the fund's
share is based on the net asset value of all securities in the
fund. That means, Mr. Herzfeld says, that the purchase price is
based on the total net assets of the fund divided by the number of
outstanding shares, plus, in the case of load funds, a sales
charge. No-load funds do not have a sales charge, and thus, shares
are bought or redeemed at their net asset value.
Closed-end funds, however, do not continually issue new shares. The
fund issues a fixed number of shares and then invests the proceeds
in various securities, such as stocks or bonds. Nor are the shares
sold or redeemed by the mutual-fund company. Rather, the funds are
listed on a stock exchange, mainly the New York Stock Exchange. The
price at which the funds are sold reflects market sentiment about
Many closed-end fund investors tend to be short-term traders,
rather than long-term investors. They buy a fund when it is trading
at a deep discount to its net asset value. If the discount shrinks,
say from 15 percent to 5 percent, they sell it. If the discount
again widens, they may buy it back. …