What Is a Closed-End Fund (CEF)?

Definition & Examples of Closed-End Funds (CEFs)

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A closed-end fund is a type mutual fund that is structured as a collective investment. It has a fixed number of shares that are sold by an investment company through an initial public offering (IPO). Unlike traditional mutual funds, it does not hold underlying securities, and managers do not create more shares to meet demand from investors.

Learn more about how a closed-end fund works and whether it should be part of your portfolio.

What Is a Closed-End Fund (CEF)?

There are two different types of mutual funds: open-end funds and closed-end funds. Open-ended funds are what most investors think of when they talk about investing in mutual fund. Closed-end funds are structured a bit differently.

Closed-end funds are actively managed by a fund manager, like many mutual funds, but do not issue or redeem shares daily as mutual funds do. A CEF portfolio is typically focused on a narrower subset of securities, such as a specific industry or market sector, which makes them more subject to volatility.

These funds are considered "closed" because they raise capital only one time, at an initial public offering, before being closed to any additional share purchases. The number of shares are fixed, and fund managers do not create more shares based on demand from investors. In contrast, an open-end mutual fund constantly issues and buys back shares from investors.

Unlike an open-end mutual fund, a closed-end fund doesn't hold underlying securities.

Alternate name: closed-ended fund

Acronym: CEF

How a Closed-End Fund (CEF) Works

A CEF trades like a stock—on a stock exchange or over the counter—while an open-end mutual fund is bought and sold directly through the fund company or a brokerage firm. In this regard, closed-end funds are similar to exchange-traded funds (ETFs).

You can buy CEFs, like traditional mutual funds, through a broker. The broker processes the transaction on the stock exchange for a closed-end fund or with the fund company for an open-end mutual fund.

Every closed-end fund has a net asset value (NAV). However, this is different from the price that you pay to invest in the fund.

The net asset value is the value of the CEF’s holdings (stocks, bonds, cash, etc.) minus any liabilities, divided by the total number of fund shares that are held by investors. Therefore, unlike a mutual fund, the NAV is not the price you pay for a share of the closed-end fund.

Closed-end funds are often bought or sold at a discount to their NAV. For example, if a CEF owns 100 stocks that have a combined value of $1,000,000 with $0 liabilities and 100,000 shares outstanding, the fund has a NAV of $10. However, if investors might only be willing to pay $9 per share of the fund.

In that case, this fund would be trading at a discount of 10% to its NAV.

Do I Need to Pay Fees?

The cost of the transaction for a CEF is similar to the cost of a stock trade. There are also internal management fees paid to the fund company to manage the fund.

If you place an order to buy a CEF, you can, at the same time, place an order to sell at a different price. For instance, you might sell at the bid price of $9.90, while you would buy at the ask price of $10. This $0.10 difference is known as the bid-ask spread and is considered the cost of doing business on the exchange.

Do I Need a Closed-End Fund (CEF)?

There are many reasons a fund company might decide to structure its fund as a CEF rather than as an open-end mutual fund (and vice-versa). It could be that the fund company has a particular niche that is better served through closed-end funds.

For example, if a fund company wants to manage stock of a very small company that is rarely traded on the stock exchange, they might form a CEF instead of a traditional mutual fund. This is because the fund managers are not forced to sell a particular security when an investor wants to sell their shares of the fund.

CEFs are niche investments that have an added layer of strategy and complexity compared to the everyday open-end mutual funds. Most casual investors won't include closed-end funds in their portfolio.

However, for investors that understand the structure and value of a closed-end fund, they can be a smart way to further diversify your portfolio. Because they are more volatile than traditional mutual funds, they are generally a good fit for investors with a high risk tolerance and a strong understanding of investment strategies.

Key Takeaways

  • A closed-end fund (CEF) is a type mutual fund that is structured as a collective investment. It has a fixed number of shares that are sold by an investment company through an initial public offering (IPO).
  • Unlike traditional mutual funds, it does not hold underlying securities, and managers do not create more shares to meet demand from investors.
  • CEFs are generally more volatile than traditional mutual funds and can be considered a riskier investment.

The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.

Article Sources

  1. Fidelity. "Closed-End Funds vs. Mutual Funds and ETFs." Accessed Aug. 29, 2020.

  2. Fidelity. "Closed-End Fund (CEF) Discounts and Premiums." Accessed Aug. 29, 2020.

  3. Morningstar. "Bid-Ask Spread." Accessed Aug. 29, 2020.