In this paper, Dr Edward O’Neal explains how closed-end funds trade at a discount to their net asset value (NAV). Dr O’Neal finds that at the initial public offering (IPO), a closed-end fund’s offering price is set at its NAV. Yet during the year after the IPO, a closed-end fund’s price drops as much as 5% from its offering price at the IPO. Furthermore, investors pay huge commissions on the sale of the closed-end fund, generating a premium in the closed-end fund at the IPO.
Given the premium at the IPO and the subsequent discount after the IPO, investors are warned not to buy closed-end funds at the IPO.