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Hot Yields Drive Rebirth of Closed-End Funds

Yield is the percentage of total assets that investors receive as income or dividends. A 9% yield on a $100 investment would pay out $9 a year.

Isaac knows of what he speaks. The February launch of the (EXG) (EXG) not only broke the record for the largest IPO for a closed-end fund, but the $5.5 billion it raised made it the third largest IPO in the history of the New York Stock Exchange. As of May 31, it posted a yield of 9.53%, says Lipper.

Like many of the funds launched this year, the new fund invests in domestic and foreign stocks that pay big dividends. It also tries to take advantage of more favorable tax treatment of dividends paid on stocks held for more than a year.

That's a big change from a few years ago, when most closed-end funds invested in bonds. The low-interest rate environment has made bond yields much less attractive. In particular, the narrow difference between short-term and long-term interest rates has made it harder for closed-end funds to boost returns by borrowing money at short-term rates and investing it in longer-dated securities.

So managers have come up with other strategies for generating additional yield, such as issuing covered calls, index call options and preferred securities.

Jeff Margolin, closed-end fund and ETF analyst at First Trust Portfolios, says these strategies allow closed-end funds to offer higher yields than the 5%-range currently offered by certain bonds.
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