In the world of investing, mutual funds are not the only type of investment company; however, they are most popular. The Investment Company Act of 1940 created three types of investment companies: Face Amount Certificate Companies, Unit Investment Trusts and Management Companies.
A management company is an investment company that manages a portfolio of securities for its shareholders. Mutual funds fall into this category. Management companies are divided into two categories: open-end or closed-end. The main difference between the two is that an open-end company makes a continuous offering of its shares, while a closed-end company makes a one-time offering of its shares.
Open-End Investment Companies
An open-end investment company makes a continuous offering of its shares that are redeemable. An open-end investment company is the technical term for a mutual fund. The purchase price of a fund is the net asset value, plus any commission or sales charged.
Closed-End Investment Companies
A closed-end company makes a one-time offering of its shares that are not redeemable. It issues shares of common stock, from which capital will be raised, and builds a portfolio of securities. The purchase price is determined by supply and demand; therefore, a closed-end fund shares can sell at a discount from net asset value or at a premium over net asset value.
Below is a chart comparing the characteristics of open-end companies and closed-end companies:
Comparison Chart |
| |
Open-End |
Closed-End |
Outstanding Shares: |
Always Changing |
Remains Fixed |
Public Offering: |
Continuous |
|
Redemption Price: |
Net Asset Value |
Not Redeemable By Issuer |
Redeemable By Issuer: |
Yes |
No |
How Shares are Purchased: |
Through A Dealer |
From Another Stockholder or Dealer Inventory |
Where Shares are Purchased or Sold: |
Over The Counter |
Over The Counter or on an Exchange |
Buying or Selling Costs: |
Stated in Fund Prospectus; Sales Charge Added to Net Asset Value to Determine Purchase Price; No Redemption Charge |
For Purchase and Sales; Normally a Stock Exchange Commission |
Today there are more than 10,000 mutual funds (open-end) as compared to approximately 2,000 closed-end companies. The popularity of mutual funds is evident: An investor can find mutual fund prices printed in various media sources everyday, while closed-end company quotations are printed only once a week.
In conclusion, the main difference between the two categories is the method by which they obtain capital to invest. An open-end company makes a continuous offering of its shares, while a closed-end company makes a one-time offering of its shares. However, the goal is the same, both invest professionally managed money for the benefit of shareholders. The Henssler Financial Group generally recommends avoiding closed-end funds, since the net asset value may not be the price the security sells for; therefore, adding to the risk of owning it. While specific situations may warrant considering closed-end funds, generally, we believe it is better for investors to use open-end funds, commonly known as mutual funds. For more information regarding this topic, please contact The Henssler Financial Group at 770-429-9166 or comments@henssler.com.
