Open Ended and Closed Ended Funds

Open-ended funds allow lump-sum and SIP investments, with multiple purchases possible. Closed-ended funds only accept investments during the NFO period, not via SIPs.
EXPLORE FUNDS
Open Ended and Close Ended Mutual Funds
EXPLORE FUNDS
3 min
04-June-2024

Open-ended funds provide investors with the flexibility to invest either through lump-sum payments or via Systematic Investment Plans (SIPs), enabling them to make multiple purchases in the fund as per their preference. Conversely, closed-ended funds restrict investments solely to the New Fund Offer (NFO) period and do not allow investments through SIPs.

The choice between open-ended and close-ended funds can be quite difficult if you are new to mutual fund investing. To make a smart choice between these two categories, you need to understand how they work and how they are different. In this article, we will explore these aspects and take a closer look at open-ended vs close-ended mutual funds.

What are open-ended funds?

Open-ended mutual funds are schemes in which you can buy or sell units on any business day. In these funds, units are purchased and redeemed continuously. They do not have any fixed maturity or lock-in periods. The units are bought or sold directly through the asset management company (AMC) or mutual fund house based on the prevailing net asset value (NAV).

Read more about, What are open ended funds

What are close-ended funds?

Close-ended funds are those schemes whose units are not available for purchase or sale at any time. You can only invest in these schemes during the new fund offer (NFO) period and redeem the investment after the maturity period is complete. Alternatively, you can sell the units of close-ended funds via stock exchanges at the prevailing market price if you want to exit your position and redeem your holdings.

Read more about, What are closed ended funds

Open ended vs Close ended mutual funds - A table comparison

In any close-ended vs open-ended fund comparison, it is crucial to see how the two categories are different from one another. The table below summarises the primary differences between open and close-ended funds.

Particulars

Open-ended mutual funds

Close-ended mutual funds

Meaning

These are funds that offer new units for subscription continuously

These are funds that only offer new units during the new fund offer (NFO) period

Liquidity

High liquidity

Limited liquidity

Purchase and sale of units

The purchase and sale of units can happen on any business day

The purchase happens during the new fund offer, while units can be sold on the stock exchanges or redeemed at maturity

Mode of investment

SIP or lump sum amount

A lump sum amount only

Maturity period

No specific maturity period

Predetermined maturity period

Mode of trading

Directly through the mutual fund house

Can be traded via stock exchanges

No. of unit holders

The number of unit holders varies

The number of unit holders is fixed unless units are redeemed on the stock exchange.

 

Open-ended vs closed-ended funds - What investors need to know

Choosing between open-ended and closed-ended mutual funds hinges on understanding their key distinctions. Here's a breakdown to help you navigate:

Investment flexibility:

  • Open-ended: Offers continuous buying and selling on business days at the Net Asset Value (NAV). Perfect for dynamic portfolio adjustments.
  • Closed-ended: Units are purchased during the initial offering (IPO) and then traded on the stock exchange like stocks. Limited flexibility after the IPO closes.

Investment minimums:

  • Open-ended: Often accessible with smaller amounts (Rs. 500 or Rs. 1,000), making them suitable for a wider range of investors.
  • Closed-ended: Typically require a higher minimum investment (around Rs. 5,000) during the IPO, potentially limiting participation.

Track record evaluation:

  • Open-ended: Historical performance data is readily available for informed decision-making.
  • Closed-ended: No track record exists before the IPO, requiring a different approach to assessing potential.

Investment strategies:

  • Open-ended: Well-suited for long-term investing due to liquidity and the ability to rupee-cost average through SIPs (investing fixed amounts at regular intervals).
  • Closed-ended: May employ specific strategies like leverage or focus on particular asset classes, appealing to investors with a high-risk tolerance seeking unique opportunities.

Risk and liquidity:

  • Open-ended: Offers liquidity, allowing investors to exit during market dips. This flexibility can be crucial for risk-averse individuals.
  • Closed-ended: Often comes with lock-in periods, restricting access to invested funds. This can be advantageous for long-term investors as it allows fund managers to focus on their strategy without short-term pressures.

Tax benefits:

  • Open-ended (ELSS): ELSS schemes offer tax benefits under Section 80C, making them attractive for tax-saving goals.
  • Closed-ended: May also offer tax benefits, but careful consideration of lock-in periods and investment alignment with financial goals is essential.

Advantages of open-ended funds

Open-ended funds offer various benefits to investors. By choosing these types of funds, you get the following advantages.

  • They are highly liquid.
  • You can purchase or redeem them at the prevailing NAV.
  • You can study the historical performance of such funds before investing in them.
  • You can invest in open-ended funds via SIPs for added benefits.
  • You can diversify your portfolio with these funds.

Disadvantages of open-ended funds

Before you choose open-ended funds, you must also be mindful of its limitations, which include the following aspects.

  • The high level of diversification may increase the market risk.
  • You are exposed to the risk of timing your entry into and exit from the markets.
  • Poor management could dilute the value of investments.

Advantages of close-ended funds

Close-ended funds also offer unique advantages to investors, some of which are outlined below.

  • The fixed capital ensures stability and reduces the cash drag on investments.
  • You can trade these funds on exchanges in the secondary market.
  • These funds may be comparatively less volatile than open-ended funds.
  • They are ideal for medium-term to long-term investments.
  • They allow you to spend more time invested in the market rather than timing the market.

Disadvantages of close-ended funds

On the downside, close-ended funds have some risks or limitations that you need to know about before you invest.

  • Liquidity may be quite limited for these funds.
  • The lock-in period may not align with your end financial goals.
  • You cannot start a Systematic Investment Plan (SIP) in these funds; you need to invest a lump sum amount.

Which one should you choose?

Now that you know the differences between open and close-ended funds as well as their pros and cons, you can make a more informed choice between the two types of mutual fund schemes. Broadly, here are some guidelines to help you choose:

Open-ended funds are suitable for you if:

  • You prioritise liquidity.
  • You want the convenience of redeeming your investments based on the current NAV.
  • You want the flexibility to adjust your portfolio according to market movements.
  • You are interested in SIPs and/or SWPs

Close-ended funds may be suitable for you if:

  • You want to invest for a fixed period.
  • You do not want immediate liquidity.
  • You have a medium-term or long-term outlook.
  • You are comfortable with fixed-term and stable investments.

Conclusion

Both open-ended and close-ended funds have their advantages. To make an informed decision, compare open-ended vs close-ended mutual funds, assess the risk-reward ratio, and choose the scheme that best aligns with your financial goals and risk appetite.

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Frequently asked questions

What are the different types of closed-ended mutual funds?

Depending on the type of assets they primarily invest in, close-ended funds can be equity or debt funds. Within these categories, there are various subcategories for the types of equity or debt instruments that make up the fund’s portfolio.

Can open-ended funds be redeemed?

Yes, you can easily redeem open-ended funds according to your convenience because they do not have a fixed maturity.

What is the meaning of ‘load’ in a mutual fund?

The load in open-ended is a kind of fee or commission that is payable when you buy or sell units in the fund. There is generally no load on closed ended schemes.

What is the difference between open-ended and close-ended funds?

Open-ended funds allow continuous investment and redemption, while closed-ended funds have a fixed number of shares and trade on exchanges.

Which funds are open-ended?

Mutual funds and exchange-traded funds (ETFs) are typically open-ended, offering liquidity through continuous buying and selling of shares.

Why is it called closed-end fund?

Closed-end funds issue a fixed number of shares during their initial public offering (IPO), creating a closed pool of capital, unlike open-ended funds where shares can be continuously issued and redeemed.

Is SIP open-ended?

Yes, SIP (Systematic Investment Plan) is a feature commonly associated with open-ended funds, allowing investors to regularly invest a fixed amount at predetermined intervals.

Is ELSS a closed-ended fund?

No, ELSS (Equity Linked Savings Scheme) is typically open-ended, allowing investors to invest and redeem units based on NAV, though there may be a lock-in period for tax benefits.

What are the different types of closed-end funds?

Closed-end funds can include equity funds, bond funds, and specialty funds, each with a fixed number of shares traded on exchanges.

What is the most common open-end fund?

The most common open-end fund is the mutual fund, offering investors the ability to buy and sell shares at NAV based on the fund's underlying assets.

What is an open-ended core fund?

An open-ended core fund is a type of mutual fund or ETF designed to provide stable, long-term returns by investing in a diversified portfolio of core assets such as stocks and bonds.

What is the difference between open-ended and closed-ended funds?

The key difference lies in liquidity and investment timing. Open-ended funds allow continuous buying and selling at the Net Asset Value (NAV) on business days. Closed-ended funds are purchased during their initial offering (IPO) and then traded on the stock exchange like stocks.

What is an open-ended fund with an example?

Open-ended funds are common, like Nifty 50 Index Funds or Balanced Funds. You can invest anytime and redeem your units at the NAV on business days.

What is a closed-end fund example?

Closed-ended funds are less common. An example could be a fund focused on infrastructure projects in a specific country. These funds are only available for purchase during the IPO.

Is ELSS a closed-ended fund?

No, ELSS (Equity Linked Saving Scheme) is an open-ended fund with a lock-in period of 3 years. You can invest anytime but can't redeem before 3 years.

Why are closed-end funds better?

Closed-ended funds aren't inherently better. They can offer unique strategies or potentially trade at a discount to their NAV, but they lack liquidity and transparency compared to open-ended funds.

Is SIP (Systematic Investment Plan) open-ended?

Yes, SIP is only available with open-ended funds. It allows you to invest a fixed amount regularly, benefiting from rupee-cost averaging.

When to buy closed-ended funds?

Consider buying closed-ended funds if they offer an attractive strategy or trade at a significant discount to their NAV. However, carefully evaluate the lock-in period and ensure it aligns with your investment goals.

Can we sell a closed-ended mutual fund?

Yes, you can sell units of a closed-ended fund on the stock exchange after the IPO. However, the price may fluctuate, and you might not get the full NAV value for your investment.

What are the disadvantages of open-ended funds?

Open-ended funds may have slightly higher expense ratios compared to closed-ended funds. Daily NAV fluctuations might not suit all investors seeking more predictable pricing.

How do you identify closed-ended funds?

Look for information about the fund on the issuer's website or financial portals. Closed-ended funds will typically have details about their listing on the stock exchange.

Why do people buy closed-ended funds?

Investors might buy closed-ended funds for specific investment strategies unavailable in open-ended funds, or if they trade at a discount, offering a potential entry point.

Is a closed-end fund taxable?

Yes, closed-ended funds are taxable like other mutual funds. Capital gains tax applies when you sell your units, and dividends received might also be taxable.

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