SIE Ready🧺 Packaged Products · Lesson 1 of 7 · 5 min
Open, Closed or Fixed: The 1940 Act Family
🧺 A mutual fund, a closed-end fund and a UIT can hold the very same stocks. What separates them is how you get in and how you get out.
💡 Key idea
Open-end: buy from and sell back to the fund at NAV. Closed-end: trade with other investors at market price. UIT: fixed portfolio, no adviser.
🧠 Why it matters
The INVESTMENT COMPANY ACT OF 1940 sorts funds into three classes. FACE-AMOUNT CERTIFICATE COMPANIES (rare today) promise a fixed sum at maturity. UNIT INVESTMENT TRUSTS (UITs) hold a basically fixed portfolio, have no board and no investment adviser, and issue redeemable units. MANAGEMENT COMPANIES have a board and an adviser who actively runs the portfolio, and come in two kinds. OPEN-END (mutual funds) sell new shares continuously and redeem them at NAV. CLOSED-END funds issue a fixed number of shares that then trade on an exchange at market price, which can sit above (premium) or below (discount) NAV. Example: a closed-end fund with a $20 NAV may trade at $18, a 10% discount.
📈 In the real world
🏷️ Priya, a new rep, sees two funds from the same sponsor holding nearly identical bonds. One quotes $25.40 at 4 p.m. only; the other moves all day on the exchange at $23.10 while its NAV is $25.00. Her manager smiles: the second is closed-end, and right now it trades at a discount to NAV.
📌 Takeaways
- Three classes: face-amount certificate companies, UITs, management companies
- Management companies split into open-end (redeemable) and closed-end (exchange-traded)
- Closed-end prices are set by supply and demand, so premiums and discounts to NAV happen
📖 Terms in this lesson
Open-end fund (mutual fund): An investment company that continuously issues new shares and redeems them at prices based on net asset value.
Closed-end fund: A fund with a fixed number of shares that trade on an exchange at market prices, often above or below net asset value.
Unit investment trust (UIT): An investment company with a fixed, largely unmanaged portfolio sold in redeemable units that ends on a set date.
✅ Test yourself
Which type of investment company has no board of directors and no investment adviser?
- Face-amount certificate company
- Unit investment trust
- Closed-end management company
- Open-end management company
Answer: B · Unit investment trust
A UIT buys a relatively fixed portfolio and simply holds it, so it has no board and no adviser. Open-end and closed-end funds are management companies, which by definition have a board and an adviser managing the portfolio.
After its initial offering, how does an investor usually buy shares of a closed-end fund?
- Directly from the fund's transfer agent
- On an exchange at the current market price
- From the fund at the next computed NAV
- From the sponsor at a fixed unit price
Answer: B · On an exchange at the current market price
A closed-end fund issues a fixed number of shares; afterwards they trade on an exchange at whatever the market will pay. Buying from the fund at NAV describes an open-end mutual fund, and the transfer agent keeps records rather than selling shares.
A closed-end fund has a NAV of $40.00 and trades at $36.00. What is true?
- The price must reset to NAV by day's end
- It trades at a 10% discount to NAV
- It trades at a 10% premium to NAV
- The fund must redeem shares at $40.00
Answer: B · It trades at a 10% discount to NAV
($40 − $36) ÷ $40 = 10%, and a price below NAV is a discount. Closed-end funds do not redeem shares on demand, and nothing forces the market price back to NAV, which is why discounts can persist.
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