Douglas G. Ober, Chairman, Adams Express Company and Petroleum & Resources Corporation President, Closed-End Fund Association

: How do closed-end funds differ from mutual funds in volatile markets?

: Investors who have experienced the financial equivalent of motion sickness as a result of extreme market volatility might consider closed-end funds (CEF’s) for relief. In fact, there are five very good reasons for using CEF’s in your asset allocation mix.

1. Portfolio Stability.

When the market takes a tumble, mutual fund managers must have the liquidity to redeem shares. But closed-end funds, which include a wide range of bond funds and funds that have other types of investments in addition to equities, are a different breed. As the value of closed-end fund portfolio holdings ebb and flow, investment decisions by portfolio managers are made purely on long-term strategies, rather than being driven by outflows. The converse also applies: in a booming market, closed-end fund managers aren’t flooded by cash they must invest at rising prices, as is often the case with successful mutual funds. 

I call that insulation from market reaction “portfolio stability,” and it’s just one of my top five reasons closed-end funds should be attractive to investors in volatile markets.

2. Analyst objectivity. 

Much has been made lately of securities analysis when it is coupled with investment banking or other aspects of “sell-side” research. Closed-end funds employ only “buy-side” analysts whose sole mission is to strengthen the company’s portfolio. At the two funds I manage, Adams Express Company and Petroleum & Resources Corporation, we are not sell-side analysts and our analysts' focus is solely on the performance of their securities selections. 

3. Investor control. 

While mutual fund orders are closed at end-of-day net asset value, closed-end funds trade just like any other stock and can be traded throughout the trading day. An order to buy or sell early in the day is executed when the trade is placed, not at the end of the day.

4. Lower expenses.

Unlike mutual funds, closed-end funds do not have ongoing costs for distribution of shares. For this and other reasons, the expense ratio of the average closed-end fund is substantially less than that of the average mutual fund. Over time, a lower expense ratio can boost investment performance.

5. Strategic clarity.

Most closed-end funds focus on consistent investment objectives such as capital appreciation or current income, whether they specialize in domestic or international stocks or fixed-income securities. Many tightly focused closed-end funds have been established to invest in a given country, region of the world or industry sector. Investors can easily match their preferences to the styles and objectives of closed-end fund managers.

In addition to these five reasons, closed-end fund performance for categories like municipal bonds and domestic equities have outpaced indices like the S&P 500 over one- and five- year periods (view performance summary).

There's a lot more to learn and consider and this website is a good place to start. I look forward to addressing your questions in future columns.

We welcome your questions or opinions in response to webservices@cefa.com.