Tavagapedia

Open-ended fund

Key Takeaways

  1. Investors can purchase and sell units of open-ended funds as per their convenience.
  2. ETFs, mutual funds, and hedge funds are examples of open-ended funds.
  3. Open-ended funds are not traded on the stock exchange.
  4. Open-ended funds are sold and purchased at their NAV.
  5. In the case of open-ended funds, investors use systematic plans such as systematic investment plans (SIPs), systematic transfer plans (STPs), and Systematic Withdrawal Plans (SWPs).
  6. Open-ended funds provide higher liquidity than close-ended funds.

An open-ended fund is a pooled investment product, which can issue shares or units as long as it finds buyers or investors.

Example

Both ETFs and MFs in India are open-ended funds.

What does mean by open-ended funds?

There are various ways in which funds are classified. For example, based on underlying assets, they are classified into equity, debt, and hybrid funds. Based on investment strategy, they are categorized into actively and passively managed funds. And based on their structure, they are classified into open-ended and closed-ended funds.

A mutual fund is launched in the market via the new fund offer. An investor can purchase open-ended funds after the completion of the NFO period. Usually investors use systematic plans for investment in these funds. An open-ended funds are bought and sold at the net asset value (NAV) of the fund. When the investor invests money in the open-ended funds, more units of funds get created, if the investor sells their units in the market, then units of an open-ended fund are taken out of circulation.

Investors who want to invest in a liquid investment vehicle and are prepared to take on market and cash flow risk in exchange for high returns can consider open-ended funds.

Difference between open-ended and close-ended funds

Open-ended funds are perpetual funds, which means once they are launched, they continue to exist without an end date, whereas closed-ended funds come with a maturity period such as 3 years, 5 years, etc. In an open-ended fund, an investor can enter and exit at any point in time. There is no locking period as such. Through open-ended funds, an investor can invest in a fund at any point of time and can withdraw as per their choice. For both types, initially offering is carried in the NFO period. After the NFO period expires, open-ended funds are traded via AMC, and closed-ended funds are sold and purchased at the stock exchange. Open-ended funds do not have any limit on trading number units. Open-ended funds have higher liquidity than closed-ended funds. Open-ended funds have fixed NAV, but closed-ended funds have different NAV because they are traded on the stock exchange. For open-ended funds, investors can use systematic plans such as systematic investment plans (SIPs), systematic transfer plans (STPs), and Systematic Withdrawal Plans (SWPs).

Advantages

  1. An investor can redeem their units of open-ended funds as per their wish, because of this open-ended fund inherits higher liquidity. These funds are sold at their NAV of the day on which they are redeemed.
  2. The availability of performance track records of open-ended funds helps investors to make informative decisions. 
  3. In the case of closed-ended funds, investors can not use systematic plans. But for the open-ended fund’s investment, investors use different types of systematic plans for buying and selling purposes.
  4. Because of the wide range of the assets in open-ended funds, these funds help investors to diversify their portfolio, which in turn reduces the chances of risk.
  5. Open-ended funds provide more transparency, as they are not traded on the stock market, but directly bought from the company.

Disadvantages

  1. Fees charged by fund managers for open-ended funds are comparatively higher than other funds.
  2. In case of open-ended funds, the fund manager needs to maintain a high cash reserve to cater to the shareholder’s redemption requests. This is not required in case of close-ended funds.
  3. These funds are bought and sold at prevailing NAV; therefore, investors have to wait till the end of the day to see if he\she has made profit or loss.
  4. In open-ended funds, investors can purchase and sell units of funds at any time, and it creates the room for risk. Investors may purchase more units when the market is growing and may redeem their units in the bear market conditions out of fear.
  5. The market risk associated with open-ended funds is likewise very high. A daily fluctuation in an open-ended fund’s NAV is caused by the volatile nature of the stock market. Thus, one must cautiously invest in open-ended funds.