Closed-End Funds: What They Are and How They Work Key takeaways
Closed-end funds (CEFs) issue a fixed number of shares in a one-time public offering and then trade on a stock exchange like stocks.
Market price can differ from net asset value (NAV), creating premiums or discounts that present opportunities and risks.
CEFs often use leverage to amplify returns, which increases both potential gains and losses.
They tend to offer higher yields but are less liquid and usually accessible only through a brokerage. What is a closed-end fund? A closed-end fund raises capital by selling a set number of shares in an initial public offering. After the IPO the fund stops issuing new shares; its existing shares trade on an exchange among investors. This contrasts with open-end mutual funds and many ETFs, which continuously issue and redeem shares as investors buy and sell. Explore More Resources
How closed-end funds operate
* Professional management: A portfolio manager actively buys, sells, and holds assets on behalf of shareholders.
* Secondary-market trading: Shares trade intraday on an exchange and are bought and sold between investors through a brokerage.
* Limited share supply: Because the fund does not continually issue or redeem shares, supply is fixed (except for certain interval funds that periodically repurchase shares).
* Distributions and fees: Like other pooled vehicles, CEFs distribute income and capital gains and charge an annual expense ratio.
Net asset value (NAV) vs. market price
* NAV is the per-share value of the fund’s underlying holdings, calculated regularly.
* Market price is set by supply and demand on the exchange and can deviate from NAV:
* Premium — market price above NAV.
* Discount — market price below NAV.
* Causes of deviation include investor sentiment about the sector, manager reputation, performance history, and market liquidity.
Leverage and performance considerations
* Many CEFs use leverage (borrowed money) to try to boost returns. Leverage can increase yield in favorable markets but magnifies losses in downturns.
* Because CEFs don’t need to keep large cash reserves to meet redemptions, they can deploy more assets and use leverage more freely than open-end funds.
* Evaluate CEFs by looking at NAV performance, market-price performance, discount/premium trends, distribution sustainability, leverage levels, and expense ratios.
Types of closed-end funds CEFs cover a broad range of strategies, including:
Municipal bond funds (largest by assets under management)
Corporate and government bond funds
Equity funds (domestic, global, international, emerging markets)
Real estate and commodity funds
* Business development companies (BDCs) Fast fact: Global funds may combine U.S. and non-U.S. securities; international funds hold only non-U.S. securities; emerging markets funds focus on higher-growth, higher-volatility regions. Explore More Resources
Example One well-known CEF is the Eaton Vance Tax-Managed Global Diversified Equity Income Fund (EXG), an income-focused fund that illustrates how CEFs blend income generation and capital appreciation objectives. Advantages and disadvantages Advantages
Potential for higher yields, particularly when leverage is used effectively
Opportunity to buy shares at a discount to NAV
* Intraday trading flexibility like stocks Explore More Resources
Disadvantages
Market price can diverge from NAV, adding valuation risk
Use of leverage increases volatility and downside risk
Generally less liquid than open-end funds and typically available only via brokerage accounts
Discounts can persist, and shares may be hard to acquire except from other investors Closed-end vs. open-end funds — summary
* Issuance: CEFs issue a fixed number of shares in an IPO; open-end funds continuously issue and redeem shares.
* Trading: CEFs trade on exchanges at market prices intraday; open-end funds are priced once daily at NAV.
* Liquidity management: Open-end funds must hold liquidity for redemptions; CEFs do not, allowing greater use of leverage and full investment of assets.
How to evaluate a closed-end fund Consider these factors when researching CEFs:
Discount/premium history and current level
NAV and market-price total returns over multiple timeframes
Distribution sources and sustainability (income vs. return of capital)
Leverage ratio and interest costs
Expense ratio and manager track record
Portfolio composition and credit quality (for bond funds) Explore More Resources
Bottom line Closed-end funds are pooled investment vehicles with a fixed number of shares that trade on exchanges. Their market-driven pricing, potential use of leverage, and fixed share supply create distinct opportunities and risks compared with open-end funds. Investors should assess discounts/premiums, leverage, distribution policies, and manager performance before investing.