I often get questions from readers regarding the many closed-end mutual funds that are readily available to trade. At first blush, ETFs look a lot like closed-end funds. ETFs hold multiple stocks, bonds or other assets in a convenient package that investors can buy and sell as if they were a stock. This confusion between ETFs and closed-end funds is exacerbated because everybody is trying to jump on the ETF bandwagon, especially after last year's mutual fund scandals. One mutual fund company has managed to add to this confusion by renaming their closed-end offerings Closed-End ETFs. These funds are not ETFs, but instead merely represent classic closed-end mutual funds.

Closed-end mutual funds and ETFs are not the same. The similarity ends with the fact that they both look like stocks. The differences include:

-- Closed-end funds rarely trade near their net asset value (NAV), whereas ETFs tend to trade very close to their NAV. This is because ETFs offer an easy-to-use way for institutional investors to create or sell the underlying portfolio of stocks. This creates and arbitrage opportunity that tends to keep the ETFs very close to the underlying value of their holdings. Closed-end funds do not have this capability. In fact, unlike ETFs, where the fund's current holdings are public knowledge, closed-end funds, like open-end mutual funds, typically do not disclose their exact portfolio holdings on a timely basis.

-- Closed-end funds are actively managed; ETFs are passively managed. Since most portfolio managers tend to underperform their benchmark, there is little incentive for me to track these funds.

-- Because closed-end funds are actively managed, in my opinion there is no reason to believe that a trader can effectively use technical analysis to analyze these funds. Technical analysis not only depends on liquidity in the underlying issue, but also requires a crowd. Although there might be a crowd trading the closed-end fund, technical analysis cannot help me forecast what an individual portfolio manager will do.

-- Most ETFs can be shorted on a downtick. By contrast, if the market is falling, you must wait for a higher-priced trade before you'll be able to short a closed-end fund. You don't have to wait for that in an ETF.

-- ETFs tend to be extremely tax efficient. Their portfolios are far less subject to change, so there is less likelihood of having capital gains taxes passed through to you via distributions. There is more of a chance of this happening in a closed-end fund. However, closed end funds can more easily protect against such distributions than open-ended funds can, because there are no redemptions. In that sense, these funds can more easily manage their tax burden than can most ETFs, as most ETFs must match a public index, which can be subject to change (whether the ETF manager likes it or not).

In summary, although ETFs and closed-end funds might look alike at first blush, they are entirely different animals. Do not be fooled by marketing materials from mutual fund companies. Any fund that incorporates the words "closed end" in the title is not an ETF. Although this does not necessarily make the fund a bad investment, you might not be getting what you thought you were.

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