Time to Open Up to Closed-End Funds?

Because of these strategic differences, distributions tend to be higher with closed-end funds. This can translate to better income streams, which may draw yield-seeking investors' attention. However, higher yield doesn't promise higher total return.

If the yield is high, there is a greater possibility that a fund will have to cut a dividend. The higher the yield, the more likely this will happen. So investors will still need to take a holistic approach, rather than just chase the highest yield, to enjoy comfortable returns.

In the closed-end fund marketplace, funds with a history of good performance and strong prospects of continued good performance, trading at a discount, have the greatest potential for investors. This potential is greatest if the discount narrows after the investment, and the good performance continues.

But, of course, investors need to consider their risk appetite and investment goals and find the funds that suit those needs. Prudent investors must look at more than just discounts and yields.

To investment professionals and those familiar with closed-end funds, these differences may be common knowledge. But what we think many investors might overlook is how the closed-end fund structure may free managers from the demands of the market.

With closed-end funds, managers don't have to worry about inflows and outflows as they do with traditional open-end funds. Because of the closed-end structure and its predetermined number of shares, there is a fixed pool of capital. Therefore, the market doesn't force the buying and selling of closed-end fund shares as it does with open-end funds.

For example, if markets start dipping, anxious investors are likely to begin pulling their money out of the equity market. This could force open-end fund managers to sell in order to raise the cash for the redemptions. They must meet this obligation whether they think selling is in the best interest of the portfolio or not. In the same scenario, closed-end fund managers would be more capable of staying the course, as their capital pool is fixed.

Furthermore, when managers are forced to sell stocks, there may be capital gains. Because closed-end fund managers do not have the same obligation to sell during market downturns, they're able to manage capital gains, providing investors with yet another advantage.

So, while in some ways closed-end funds do open up the possibility of different risk than their open-end counterparts, their structure may make them an attractive alternative when markets start to experience volatility.

It's easy to close one's mind to nontraditional solutions. But investors may benefit from assessing their portfolios, goals and risk profiles and considering opportunities in closed-end funds.

Josh Duitz is a senior vice president on the Global Equities team at Aberdeen Standard Investments, where he manages the Aberdeen Total Dynamic Dividend Fund.