Open Ended Vs Close Ended Funds - The Key Differences (2024)

Open-ended funds provide investors with the flexibility to invest either through lump-sum payments or via Systematic Investment Plans (SIPs), enabling them to make multiple purchases in the fund as per their preference. Conversely, closed-ended funds restrict investments solely to the New Fund Offer (NFO) period and do not allow investments through SIPs.

The choice between open-ended and close-ended funds can be quite difficult if you are new to mutual fund investing. To make a smart choice between these two categories, you need to understand how they work and how they are different. In this article, we will explore these aspects and take a closer look at open-ended vs close-ended mutual funds.

What are open-ended funds?

Open-ended mutual funds are schemes in which you can buy or sell units on any business day. In these funds, units are purchased and redeemed continuously. They do not have any fixed maturity or lock-in periods. The units are bought or sold directly through theasset management company (AMC) or mutual fund house based on the prevailing net asset value (NAV).

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What are close-ended funds?

Close-ended funds are those schemes whose units are not available for purchase or sale at any time. You can only invest in these schemes during the new fund offer (NFO) period and redeem the investment after the maturity period is complete. Alternatively, you can sell the units of close-ended funds via stock exchanges at the prevailing market price if you want to exit your position and redeem your holdings.

Read more about, What are closed ended funds

Open ended vs Close ended mutual funds - A table comparison

In any close-ended vs open-ended fund comparison, it is crucial to see how the two categories are different from one another. The table below summarises the primary differences between open and close-ended funds.

Open-ended vs closed-ended funds - What investors need to know

Choosing between open-ended and closed-ended mutual funds hinges on understanding their key distinctions. Here's a breakdown to help you navigate:

Investment flexibility:

• Open-ended:Offers continuous buying and selling on business days at the Net Asset Value (NAV). Perfect for dynamic portfolio adjustments.
• Closed-ended:Units are purchased during the initial offering (IPO) and then traded on the stock exchange like stocks. Limited flexibility after the IPO closes.

Investment minimums:

• Open-ended:Often accessible with smaller amounts (Rs. 500 or Rs. 1,000), making them suitable for a wider range of investors.
• Closed-ended:Typically require a higher minimum investment (around Rs. 5,000) during the IPO, potentially limiting participation.

Track record evaluation:

• Open-ended:Historical performance data is readily available for informed decision-making.
• Closed-ended:No track record exists before the IPO, requiring a different approach to assessing potential.

Investment strategies:

• Open-ended:Well-suited for long-term investing due to liquidity and the ability to rupee-cost average through SIPs (investing fixed amounts at regular intervals).
• Closed-ended:May employ specific strategies like leverage or focus on particular asset classes, appealing to investors with a high-risk tolerance seeking unique opportunities.

Risk and liquidity:

• Open-ended:Offers liquidity, allowing investors to exit during market dips. This flexibility can be crucial for risk-averse individuals.
• Closed-ended:Often comes with lock-in periods, restricting access to invested funds. This can be advantageous for long-term investors as it allows fund managers to focus on their strategy without short-term pressures.

Tax benefits:

• Open-ended (ELSS):ELSS schemes offer tax benefits under Section 80C, making them attractive for tax-saving goals.
• Closed-ended:May also offer tax benefits, but careful consideration of lock-in periods and investment alignment with financial goals is essential.

Advantages of open-ended funds

Open-ended funds offer various benefits to investors. By choosing these types of funds, you get the following advantages.

• They are highly liquid.
• You can purchase or redeem them at the prevailing NAV.
• You can study the historical performance of such funds before investing in them.
• You can invest in open-ended funds via SIPs for added benefits.
• You can diversify your portfolio with these funds.

Disadvantages of open-ended funds

Before you choose open-ended funds, you must also be mindful of its limitations, which include the following aspects.

• The high level of diversification may increase the market risk.
• You are exposed to the risk of timing your entry into and exit from the markets.
• Poor management could dilute the value of investments.

Advantages of close-ended funds

Close-ended funds also offer unique advantages to investors, some of which are outlined below.

• The fixed capital ensures stability and reduces the cash drag on investments.
• You can trade these funds on exchanges in the secondary market.
• These funds may be comparatively less volatile than open-ended funds.
• They are ideal for medium-term to long-term investments.
• They allow you to spend more time invested in the market rather than timing the market.

Disadvantages of close-ended funds

On the downside, close-ended funds have some risks or limitations that you need to know about before you invest.

• Liquidity may be quite limited for these funds.
• The lock-in period may not align with your end financial goals.
• You cannot start a Systematic Investment Plan (SIP) in these funds; you need to invest a lump sum amount.

Which one should you choose?

Now that you know the differences between open and close-ended funds as well as their pros and cons, you can make a more informed choice between the two types of mutual fund schemes. Broadly, here are some guidelines to help you choose:

Open-ended funds are suitable for you if:

• You prioritise liquidity.
• You want the convenience of redeeming your investments based on the current NAV.
• You want the flexibility to adjust your portfolio according to market movements.
• You are interested in SIPs and/or SWPs

Close-ended funds may be suitable for you if:

• You want to invest for a fixed period.
• You do not want immediate liquidity.
• You have a medium-term or long-term outlook.
• You are comfortable with fixed-term and stable investments.

Conclusion

Both open-ended and close-ended funds have their advantages. To make an informed decision, compare open-ended vs close-ended mutual funds, assess the risk-reward ratio, and choose the scheme that best aligns with your financial goals and risk appetite.

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