What Are Close-Ended Mutual Funds and How Do They Work?

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What Are Close-Ended Mutual Funds?

Close-ended mutual funds have a fixed maturity period, usually between 3 to 5 years or more. Once you invest in these funds, your money remains locked until maturity.
An Asset Management Company (AMC) launches these funds through a New Fund Offer (NFO), similar to an Initial Public Offering (IPO). These funds have a fixed number of units that can only be bought during the NFO period, which typically lasts for 15 days. After the NFO closes, investors cannot buy or sell units until the fund matures.
To provide an exit option before maturity, the Securities and Exchange Board of India (SEBI) allows these funds to be listed on stock exchanges, where investors can sell their units at a price that may be above or below the Net Asset Value (NAV).

How Do Close-Ended Mutual Funds Work?

Mutual funds can be open-ended or close-ended, as mentioned in the Scheme Information Document (SID). Examples of close-ended funds include ICICI Prudential Growth Fund and SBI Tax Advantage Fund.

During the NFO phase, the AMC raises funds, but close-ended funds issue only a limited number of units. SEBI has set rules for these funds:

  • There must be at least 20 investors.

  • No single investor can hold more than 25% of the total investment.

If these conditions are not met, the fund is either closed or the extra investment is refunded.

Close-ended funds are managed by professional fund managers, and their NAV fluctuates during trading hours based on market activity. Investors also pay an expense ratio for fund management. Once the fund matures, investors can withdraw their money, or the AMC may convert it into an open-ended scheme.

How Are Close-Ended Mutual Funds Different From Open-Ended Mutual Funds?

The key difference is that open-ended funds do not have a maturity date and allow investors to buy or sell units anytime, even after the NFO ends.

Other differences include:

  • Close-ended funds require a lump sum investment during the NFO, whereas open-ended funds allow investments through a lump sum or a Systematic Investment Plan (SIP).

  • Close-ended funds lack historical performance records, so investors rely on the SID. In contrast, open-ended funds have past performance data, helping investors make informed decisions.