open-vs-close4

Open Ended v/s Closed Ended Funds

In Mutual Funds by Mitul Daga and Nibedita Das0 Comments

Mutual Funds can be structurally classified into two broad categories – Open Ended Funds and Closed Ended Funds.

Open Ended Funds are available for subscription and repurchase on a continuous basis and sold at Net Asset Value (NAV) as declared by the fund house. They do not have a fixed maturity period and are usually not listed on the exchanges.

Closed Ended Funds raise a fixed amount of capital through an NFO (New Fund Offers) and have a fixed maturity period. These funds are then listed and traded like stocks on a stock exchange to provide investors an exit route before the maturity date.
Let us consider and examine the key characteristics of both the fund types and how it might affect our investment prospect.

1. Liquidity – Open ended funds offer flexible participation in the market and provides liquidity at the will of the investor, thus allowing the investor to make sound investment decisions in accordance to the prevailing market conditions. Whereas closed ended funds have limitations on both the entry and exit of the investors. Since they are listed on the stock exchange, it provides the investor an alternative route for purchase or withdrawal. However, the prices of these funds are determined by the demand and supply of market forces and are usually valued at a discount or premium to their market value (NAV) due to illiquidity.

2. Performance History – It is a key parameter to evaluate and zero in on funds, which is easily available for open ended funds. But a closed ended fund is deficient of this record and we have to make our own assessment of the fund’s investment objectives and track record of the fund manager.

3. Fund Management – Since closed ended funds have a fixed corpus, they are free from disruptions like sudden or regular inflows or outflows, and the fund manager enjoys the freedom to employ and divert the capital according to the fund objective. On the other hand, open ended funds are challenged with sudden inflows and outflows, which at times may adversely impact the overall return prospect.

4. Return – A comparison of the average return between the open ended funds and closed ended funds will be an appropriate approach to determine the performance of the fund types.

Following are the average returns of 20 top performing open ended and closed ended funds over the last 3 years:

Open Ended Funds Closed Ended Funds
Top 20 Equity Funds Average Return (3yrs) 21.05 % 17.93 %
Top 20 Debt Funds Average Return (3 yrs) 8.81 % 8.70%

Note: Annualised Return computed as on 20.01.18

Source : www.rupeevest.com

The above illustration is a decisive report about how over the given time period and similar market conditions, the open ended funds have managed to outperform the closed ended funds across asset classes.

We have observed that although closed ended funds have the leverage of uninterrupted fund management, yet they lag behind open ended funds in terms of return. The above comparison clearly puts the case of open ended funds over closed ended funds for the following reasons:

  • Flexible participation option
  • Performance history to help our fund selection
  • Track record of outperforming closed ended funds

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