Mutual funds come in all shapes and sizes. Hence, there is a mutual fund for every type of investor and financial goal. There are more than a thousand mutual fund schemes. And we can broadly classify mutual funds into two types: open-ended mutual funds and close-ended mutual funds.
As per the current AMFI’s monthly report, there are 1,278 open-ended and 165 close-ended schemes as on 31st March 2023.
It is important to note that both equity and debt funds can be open-ended or close-ended mutual funds.
In this article, we will look into these two types of mutual funds in detail.
Close-ended mutual funds
When a fund is launched, all funds are initially open for subscriptions for a certain period, known as the New Fund Offer (NFO). In the case of close-ended funds, the fund is open for subscriptionsonly during the NFO period. Units of these close-ended funds are listed on the stock exchanges, and you can redeem the units by selling them to another investor.
However, the fulfilment of the transaction will depend on the demand and supply of the fund’s units. So, we can say that close-ended funds have limited liquidity.
The accumulated amount is returned to respective investors after the maturity period.
Advantages of investing in close-ended mutual funds
Close-ended mutual funds are relatively stable as the fund doesn’t witness large-scale inflows and outflows. As a result, the assets under this fund remain relatively stable.
It can be ideal for investors whose investment horizon matches the fund’s maturity period.
Fund managers can look at investment options that align with the scheme’s objective without bothering about short-term performance, as there is no redemption pressure.
Disadvantages of close-ended funds
New investors cannot enter the fund; existing investors cannot invest more money after the NFO period. Redemption is also tricky as investors must find buyers on the exchanges.
Systematic Investment Plan (SIP) is one of the attractive features of mutual fund investment. SIP facility allows investors to invest a certain amount at regular intervals. However, SIP is not available for close-ended funds as these funds become closed after the NFO period.
These funds don’t have any record of past performance. So, investors cannot make an investment decision based on the fund’s performance.
Open-ended mutual funds
Open-ended funds are the most popular type of mutual fund; you can invest and redeem from these funds at any time. These funds don’t have a fixed maturity date.
The price of one unit, i.e., the Net Asset Value (NAV) of an open-ended mutual fund, is calculated on a daily basis. The NAV depends on the value of the fund’s underlying investment instruments, such as stock prices and bond prices.
Equity Linked Savings Scheme (ELSS) is a tax-saving mutual fund category. Although ELSS comes with a three-year lock-in period, it is an open-ended fund, as you can invest multiple times throughout the investment period.
Advantages of open-ended funds
Open-ended funds are extremely liquid. You can invest and redeem your investments at any time based on the prevailing NAV. Here, you sell your units back to the fund house and don’t have to worry about finding investors interested in buying your fund units.
You can find the past performance of the fund and see how the fund has performed during the various market phases. The fund’s performance can also be compared to its peers and their benchmark. Although future performance is not related to past performance, we can have an idea about how the fund performed in the past.
Open-ended funds are for you if you are a salaried individual or looking to invest a certain amount of money every month. By setting up a SIP, you can invest a fixed amount monthly. You can also opt for the half-yearly, quarterly or weekly SIP frequency as well.
You can start investing in open-ended funds with Rs.500 every month through SIP. Also, the minimum amount for lump sum investment starts at Rs.1000.
Disadvantages of open-ended funds
Open-ended funds can be volatile in the short run as the NAV of the fund depends on the current market scenario. So, if you invest in a high-risk fund, such as a small-cap fund, you might witness severe volatility.
As these funds are open for redemption, the value of the fund might take a hit on the back of heavy redemption.
Close-ended and open-ended mutual funds have different objectives. However, open-ended funds might be a better option for you because they have greater liquidity and flexibility. You can start a SIP or invest lump sum amounts in meeting your financial goals. Moreover, you can check these funds’ performance and other aspects to make better investment decisions.
Padmaja Choudhury is a freelance financial content writer. With around six years of total experience, mutual funds and personal finance are her focus areas.