Pricing Closed-End Funds
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Pricing Closed-End Funds
Because closed-end mutual funds are traded on an exchange, the price you pay or get from the transaction depends upon what a willing buyer and seller agree upon. However, the value of the fund may depend totally upon other factors, such as the underlying prices of the securities it owns.
Things To Know
- Changes to the market price of a closed-end fund are based on supply and demand.
- Many other factors also influence closed-end fund share prices.
How net asset value works
Net asset value (NAV) measures the portfolio value of a closed-end fund share. It is calculated by the following formula:
Net Asset Value = (Total Assets - Total Liabilities)/Shares Available
Total assets include the market value of the fund’s securities and any cash it holds. Changes to security prices in the marketplace change the net asset value.
How supply and demand affect prices
The price at which the shares of the fund trade on the exchange is known as the market price. Changes to market price are based on supply and demand.
When the demand for closed-end fund shares is greater than the supply, the market price of the shares is higher than its NAV. These shares are said to be trading at a premium.
When the demand for closed-end fund shares is less than the supply, the market price of the shares is less than the fund’s NAV. These funds are said to be trading at a discount. A discounted share means you can buy a dollar’s worth of securities for less than a dollar.
What else affects prices?
Many factors besides overall market outlook influence whether closed-end fund shares trade at a discount or a premium. These include the following factors:
- Performance. A closed-end fund that outperforms overall market indexes will sell its shares at a premium and vice versa.
- Tax liability. Closed-end funds subject to large capital gains taxes tend to sell shares at discount.
- Investment opportunity. If the closed-end fund offers a unique investment opportunity, its shares will tend to sell at premium.
- Increased supply. If more funds that invest in the same markets come along, the closed-end fund’s shares will tend to be discounted.
- Low net asset value. Investors expect the market to rebound, so they hold onto their shares. This leads to premiums.
Because closed-end fund shares trade independently of the securities they own, the price of closed-end fund shares may trade higher or lower than their net asset value. This may be an advantage to certain investment strategies.