The new regulations by Securities and Exchange Board of India (Sebi), which have allowed only close-ended schemes to charge initial issue expenses up to 6% for a period of five years, will no doubt see the resurgence of close-ended funds in a big way, but these funds were making a comeback lately even before the announcements.

At present there are five equity-oriented close-ended funds, including the ongoing NFO of Standard Chartered Enterprise Equity Fund which has been the only new launch after the new regulations.

The Indian mutual fund industry in its infancy was dominated by close ended funds, but the liquidity provided by open-ended funds to the investors attracted them, and subsequently close ended funds lost their charm.

The success of Fixed Maturity Plans which are mostly close-ended in nature, have provided the platforms for equity funds too. Recently launched close-ended schemes, Franklin India Smaller Companies Fund and HDFC Long term Equity Fund generated good response from the investors and mobilized close to Rs 1300 crore from its NFO. Tata Tax Advantage Fund and Prudential ICICI Fusion Fund have also mobilised decent amounts.
The only other closed-ended equity diversified scheme besides these four is Morgan Stanley Growth Fund, which has been in existence since January 1994. Its corpus as on Mar 06 stood at Rs 2,892.11 crore, and has posted compounded annualized returns of 17.56% since inception.
By definition, a closed-end fund has a stipulated maturity period which generally ranges from 3 to 15 years. The fund is open for subscription only during a specified period. Investors can invest in the scheme at the time of the initial fund offer and thereafter they can sell the units of the scheme either on the stock exchanges, if they are listed or else some close-ended funds give an option of selling back the units to the Mutual Fund through periodic repurchase at NAV related prices. SEBI Regulations stipulate that at least one of the two exit routes is provided to the investor.
Closed Ended Funds offer host of benefits to the fund manager for both equity as well as debt funds. In a debt fund, the fund manager can make investments in line with the fund’s tenure, thus offering returns with a reasonable degree of certainty on maturity. In case of equities the fund manager can take a long-term view ignoring short term volatility. Additionally it gives more leeway to the fund manager as he may not have to maintain cash flows on a daily basis as. there being no redemption pressures. Further, these schemes can invest in ill-liquid stocks which are fundamentally good, and wait for a reasonably amount of time for the markets to discover their true potential.

Though closed end funds have the above-mentioned virtues, investors should also take the low liquidity of these funds into consideration. Thus, only that portion of investible surplus which can be set aside for a longer time should be allocated to the close ended funds.

Another factor to consider is the state of the market and the outlook of the economy in the longer term. It may happen that when scheme becomes due for redemption, market may not be at the expected levels when investment was made, therefore these investment may turn out be a little riskier than you thought, but with Indian markets in the middle of a bull run and the positive outlook on the economy, fears of a crash seems unfounded.

Also as most of the investments in closed ended schemes are made during their NFOs and after this stage, no fresh investments can be made in the fund , thus with no historical performance or other parameters like standard deviation and beta to evaluate the performance, the fund house and fund manager assumes utmost importance. As these schemes intend to invest across the large, mid and small market capitalization like Franklin Smaller Companies Fund, which aimed to invest in midcap and smallcap stocks, stock-picking ability of the fund manager plays very important role.

Close-ended schemes provide the exit option periodically after paying for high exit loads, also these schemes are trying to strike a reasonable balance between liquidity and stability in funds under management, but investors should carefully evaluate all the pros and cons before committing an investment for long term into closed-ended schemes.
With everything said and done, close-ended funds still looks a winner as it inculcates discipline in an investment, reduces speculation and is generally good for the well-being of the overall markets .