Roanoke Times
Copyright (c) 1995, Landmark Communications, Inc.
DATE: MONDAY, April 19, 1993 TAG: 9304180007
SECTION: BUSINESS PAGE: A-6 EDITION: METRO
SOURCE: MAG POFF STAFF WRITER
DATELINE: LENGTH: Medium
Although the average investor may want to consider them in today's low-interest environment, it's important to understand this type of investment.
That's because the Institute of Certified Financial Planners warned that "these funds are riskier than their open-end brothers."
Open-end funds offer an unlimited number of shares. The more people invest, the bigger the fund grows. The fund usually buys and sells its own shares.
Closed-end funds have a fixed and limited number of shares that trade like stock, usually on the New York Stock Exchange. People buy and sell the shares through brokers.
Like open-end mutual funds, the institute said, closed-end funds buy and sell domestic and foreign stocks, bonds and other types of investments.
Some specialize in government securities or junk bonds or the stocks of a single country.
The value of their portfolios, the institute said, is represented by the net asset value of the securities managed by the fund.
The price of a share, which the institute said is typically $8 to $25, depends on the fund's net asset value, as well as on the supply and demand for the fund's limited shares.
Essentially, the planners said, investors are buying shares in a company that manages a portfolio of securities.
Because of the limited number of available shares, closed-end funds sell at a premium, meaning above, or at a discount, meaning below, their net asset value.
Historically, while new funds and hot funds sell at a premium, sometimes by as much as 20 percent, most funds sell at a discount, according to the planners.
Buying a fund at a discount is like paying 80 to 95 cents on the dollar. Therefore, the planners said, heavily discounted funds can provide huge returns for investors if they rise toward their net asset value or higher.
The institute said that one fund investing in small company foreign stocks returned 177 percent to its investors in just three years.
Although long-term performance records are sketchy, the group said, closed-end stock and bond funds have, on average, outperformed open-end funds over the last decade by 1.5 percent to 2 percent a year.
That's because closed-end funds aren't forced to invest new shareholder money. Nor must they sell securities when they don't want to in order to have cash to pay shareholder withdrawals.
Thus, they can stay fully invested in stocks and bonds, holding on to their investments until the fund managers want to sell them.
The planners said this can translate into superior long-term returns compared to open-end funds. The ability of investors to buy at discounts also pumps up returns.
Looking for funds selling at a discount, particularly a deep discount, is one way to buy closed-end funds.
Investors also can profit buying into a discounted closed-end fund that plans to become an open-end fund in the future. That's because the shares will be repriced to net asset value at the time of conversion.
Buying at a premium is generally too risky, according to the financial planners, just as buying an over-priced common stock is considered risky.
The institute said funds tend to sell at a premium in the early weeks after they are sold to the public. After that, over time, they decline to, or below, net asset value.
The planners cautioned investors to buy a closed-end fund as they would a more traditional open-ended one.
Look for quality funds that meet the needs and risk-level of your own portfolio, that have strong long-term records and that have reasonable management fees.
Pick funds that trade a substantial number of shares daily. Otherwise the share price will fluctuate dramatically if someone sells a large block of shares.
In any case, the planners said, their value tends to rise and fall more quickly than comparable open-end funds.
As with most investments, careful shopping is required for anyone interested in a closed-end fund.
by CNB