What is a Dual-purpose Fund
A dual-purpose fund is a closed-end fund that offers two stock classes: common shares and preferred shares. Holders of the common shares benefit from any capital gains. Holders of preferred shares benefit from dividend income.
Dual-purpose funds really should be called split-purpose funds. Investors seeking capital gains tend to own the common shares. Risk-averse investors, however, tend to hold only the preferred shares. Few hold both.
More investors owned dual-purpose funds in the late-’70s and early -’80s. Today, few if any exist, although there still are many closed-end funds.
BREAKING DOWN Dual-purpose Fund
Dual-purpose funds first require an understanding of closed-end funds, which are investment companies that, like ETFs, have tickers and trade daily on an exchange. They offer an interest in a specific portfolio of securities run by an active manager. Most offer exposure to specific industries, geographies, markets, sectors or investment styles.
Both closed-end funds and open-end funds offer professional money management and holdings diversification. Both also charge an annual expense ratio and typically make income and capital gain distributions to shareholders.
While open-end mutual funds, by far the most common type, price only once at the end of the day, closed-end funds trade throughout the day. Closed-end funds also require a brokerage account to buy and sell, unlike most open-end funds.
The stock prices of dual-purpose funds, and all closed-end funds, fluctuate based on supply and demand for the fund itself, as well as the changing values of the fund holdings. Exchanges publish the net asset value (NAV) of the fund regularly. However, dual-purposes funds, and all closed-end funds, often trade at a premium of a discount to NAV. The reputation of the fund’s manager as a stockpicker and the popularity of the underlying holdings help determine this discount or premium.
One downside to dual-purpose funds, as well as all closed-end funds, is that some are fairly illiquid.
One of the largest and most liquid closed-end funds is the Eaton Vance Tax-Managed Global Diversified Equity Income Fund.
Dual-Purpose Fund vs. Strips
The common shares of dual-income funds have a parallel in the fixed income called Treasury STRIPS. These zero-coupon bonds separate the bond’s coupons from from the bond or note; an investor's return depends on the difference between the purchase price and the bond's trading value, or face value if held to maturity. Thus, income has no bearing on the return.
Similarly, common shares of dual-income funds strip out the income portion of the return. This payment stream is sold separately and is accessed by buying the preferred shares.