SIC 6726 Unit Investment Trusts, Face Amount Certificate Offices, and Closed-End Management Investment Trusts

SIC 6726

The closed-end investment industry consists of investment offices primarily engaged in issuing closed-end funds, unit investment trusts, or face amount certificates. For related information on investment industries, see SIC 6722: Management Investment Offices, Open-End and SIC 6282: Investment Advice.

NAICS CODE(S)

525990

Other Financial Vehicles

INDUSTRY SNAPSHOT

Unit investment trust (UIT) and closed-end fund (CEF) companies sell shares in securities portfolios. These shares must be purchased when they are initially issued, or afterwards on the open market, and are not redeemable before a designated date. Face amount certificates are essentially obligations of the issuing company to pay a fixed sum at a specified maturity date, and often require periodic payments by the purchaser.

Because shares in this industry's portfolios must be held until a set date, they are not as popular as open-end, or mutual, funds, although they may generate greater earnings. With a stable pool of money, portfolio managers can take more risks in search of profits, often investing in volatile countries and emerging markets. Many closed-end funds, which are traded on stock exchanges, are bargains, because they sell for less than the value of the stocks or other investments that they hold. Funds may also sell for more than their value.

Closed funds are a very small part of the mutual fund industry, accounting for $517 billion in assets, just 6 percent of total industry assets of $8.6 trillion at year-end 2004. Nearly $8.1 trillion was held in open-ended mutual funds. At the end of 2004 there were just over 600 closed-end investment companies, five sponsors of UITs, and 144 exchange-traded funds (ETFs), compared with over 8,000 open-ended mutual funds. While UIT numbers declined during the first half of the 2000s, CEFs and ETFs increased significantly in popularity.

ORGANIZATION AND STRUCTURE
CEFs

Closed-end fund companies are similar to open-end mutual companies in that they both sell shares in a portfolio of actively managed securities. Shareholders benefit from efficient access to professional investment management and from portfolio diversification that they likely would be unable to achieve on their own. Unlike open-end funds, however, CEFs issue a fixed number of shares, which are sold through initial public offerings (IPOs). The money collected through the IPO is invested in securities. After the IPO, shares may not be redeemed until a predetermined date. They must be sold and purchased through a broker on an exchange or through over-the-counter markets.

An important characteristic of a CEF share is that its price is determined by market demand and supply, rather than by the net asset value of the securities represented by the share. CEFs usually trade at a discount to their net asset value, which can vary widely for several reasons. While most CEF shares are traded on the New York Stock Exchange (NYSE), CEFS are also traded on the American Stock Exchange (AMEX) and the National Association of Securities Dealers Automated Quotation (NASDAQ).

After an investment company initiates a CEF, it employs a fund adviser to manage the investment of the shareholders' assets, to conduct research, and to handle administrative tasks. The fund advisory firm is often a subsidiary of the investment company. In fact, the CEF is often established for the purpose of allowing the investment company's directors to earn fees from managing the fund. The adviser's management fee is usually based on the amount of assets in the fund and is commonly set on a sliding scale that declines as total assets increase. Fees of 0.3 to 1 percent of fund assets are common, although some funds offer incentives that are linked to performance. When combined with other fund management costs, operating expenses can consume 10 percent or more of a fund's total income.

Several types of CEFs are offered by investment companies, including equity, bond, and specialty funds. Some portfolios are highly diversified while others emphasize a particular industry or security type. In the early 1990s, about 70 percent of all CEF assets were invested in bond funds. That percentage decreased slightly, to 66 percent, by May 2005, when $172.43 billion of the total $259.65 billion invested in closed-end funds was invested in bond funds. While the primary objective of a CEF that emphasizes bonds is to produce high yields, stock fund advisers seek capital gains. Specialty funds include non diversified CEFs...

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