Welcome to Ameritrade Plus University |
|
||||
|
|
In a rebound, these forgotten mutual funds will likely offer outsized capital gains. There is good money to be made in closed-end funds -- just not recently. These unusual securities have faded into obscurity because they haven't performed well, but once the burned growth-stock investors start poking around for value, closed-ends could enjoy a resurgence. Closed-end funds were popular in the 1920s and were the forerunners of today's mutual funds. Like modern open-end funds, closed-ends hold diversified portfolios of securities and usually distribute income and capital gains each year. They differ from open-end funds in a couple of key ways. The most important is that their size is fairly constant. Unlike open end funds, which sell new shares or redeem them as investors add or withdraw money, closed-ends generally have a fixed number of shares outstanding. That means you usually have to buy shares from other investors. As a result, the share price of a closed-end is determined by investor demand, and shares can (and usually do) trade at a discount or a premium to the net asset value of securities in the portfolio. (Open funds are normally valued at NAV.) In the booming market of the past few years, closed-ends have been largely ignored, and discounts have widened to near-record levels -- 15 percent or more in many cases. These large discounts offer the opportunity for a profitable double play. If you buy a fund with a successful portfolio, you will benefit from the increasing NAV. And if the fund becomes popular, you'll also benefit from a shrinking discount. Since predicting investor sentiment is impossible, you should begin by analyzing a fund's portfolio. Often, closed-ends specialize in particular securities, a specific industry, for example, or stocks of a single foreign country. Ideally, you want one that focuses on an area capable of strong growth. For instance, you might choose a fund that invests in a major European country, a diverse group of emerging markets, or an important sector, such as health care. You should also examine the fund's expenses and its track record. Closed-ends often have high costs, so look for an expense ratio below those of competitors. And avoid funds that have greatly underperformed their peers. The most important factor, though, is the size of the discount. As a general rule, closed-ends have to be trading at discounts of at least 10 percent to be worth buying. And attractive funds can have discounts of 15 percent or more. It's just as important, though, to compare the current discount to historical levels. A fund with a 16 percent discount isn't necessarily cheap if it has always sold at 16 percent. A far better choice would be a fund with a 14 percent discount that used to trade at 9 percent. To get detailed information on closed-ends, you'll have to consult specialized research. Standard sources, such as the Value Line Investment Survey and Morningstar, cover selected closed-ends. The largest full-service brokers also provide proprietary research. | ||
|
|