Did you ever try to learn more about mutual funds and then give up half way because you came across terminologies that did not make much sense to you? We all have been in those shoes at some point. But we don’t want you to miss out on a chance to get potential returns because of a few new terms.
The first thing you’ll find when you look for types of mutual funds is Open ended schemes and Close ended schemes. Though both are types of schemes of mutual funds, they are different in the way you can invest and redeem. Let’s see how the two schemes differ from each other and which one could suit you.
The common investor knows and hears mostly about open-ended schemes. This scheme means a scheme of mutual fund which offers units for sale without specifying any duration for redemption. These don’t have a limit as to how many units can be issued. When an investor purchases units in an open-ended scheme, more units are created and similarly, they are taken out of circulation when anyone sells their units. Since open-ended scheme aren’t traded on the open market (like stocks), you can’t watch the value of such schemes fluctuate. These schemes are revalued at the end of each trading day according to the number of shares bought or sold. The per-share price is determined by the net value of all assets held by the fund, divided by the number of shares.
What is a close-ended scheme of a mutual fund?
A close-ended investment is just the opposite. A close-ended scheme means any scheme of a mutual fund in which the period of maturity is specified. You can invest in close-ended schemes of a mutual fund at the time of New Fund Offer (NFO), the units in the close-ended scheme shall be redeemed at the end of the maturity period. The Fund Managers of such close-ended schemes trade in secondary markets with the amount generated during NFO. This means that you have a limited window to get in, new investors cannot enter, and the ones who are in cannot exit till the maturity of the scheme. No need to panic though, the scheme will be listed on any recognized stock exchange as may be decided by AMC from time to time and the Unit holders who wish to redeem units may do so through Stock Exchange at prevailing listed price on such Stock Exchange. Since the actual price of closed-end funds are affected by supply and demand, they can be traded above or below its real value.
Weighing the scales: Which one do you pick?
Open-ended schemes are the most convenient investment option for the investor and especially those who are new to it. It mostly offers several advantages like the ability to diversify your investment, manage them according to your risk appetite and liquidity, by allowing you to redeem from your investments at any point of time. The major risk in investing in such funds comes with the rapid flow of capital on a daily basis. You may read the scheme information documents pertaining to such schemes in detail to know about the risk associated with such schemes. There could be major flux in the stock prices which could generate returns and equally may generate losses.
On the other hand, close-ended schemes are traded just like any other stock on an exchange which makes it not-so-easy for an amateur investor. Liquidity is also low because of which selling off your units could be difficult even if you’re in a financial emergency.
Now that you’re clear on the differences between the two types of mutual fund schemes, you can go ahead and explore the investments market. However, it is important that you compare products within the different types of mutual funds to make the best choice.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.