FINRA Series 6 Investment Company and Variable Contracts Products Representative ExaminationRegulatory Fundamentals and General Product KnowledgeMedium
A registered representative is discussing different types of investment companies with a client. They mention a company that issues a fixed number of shares that trade on a stock exchange, and whose price is determined by supply and demand rather than net asset value. Which type of investment company is being described?
- AExchange-traded fund (ETF)
- BOpen-end management company
- CUnit investment trust (UIT)
- DClosed-end management company
Show answer & explanationAnswer & explanation
Correct answer: D. Closed-end management company
A closed-end management company issues a fixed number of shares in an initial public offering (IPO), and these shares then trade on stock exchanges. Their market price is influenced by supply and demand, often trading at a premium or discount to their net asset value (NAV).
Why the other options are wrong
- A. ETFs trade on exchanges, but their prices are typically kept close to NAV through an arbitrage mechanism involving creation/redemption units, unlike closed-end funds which can deviate significantly.
- B. Open-end funds (mutual funds) continuously issue and redeem shares at NAV.
- C. UITs issue redeemable shares but have a fixed, unmanaged portfolio and generally don't trade on exchanges based on supply/demand.
Closed-End Fund Characteristics
An investment company that issues a fixed number of shares that are then traded on secondary markets (stock exchanges), with their market price determined by supply and demand.
- Fixed number of shares
- Trade on stock exchanges
- Price determined by supply/demand
- Can trade at premium/discount to NAV
Memory trick: Closed-end: 'Fixed shares' on the 'exchange', price 'moves freely'.