Closed-end mutual funds are facing some challenges, the biggest ones yet according to The Wall Street Journal.

About three years ago, investors began to flock to these funds because they offered high dividends along with low interests rates. A majority of closed-end funds, 72%, invest in bonds or similar instruments tied to interest rates. However, closed-end funds have been disappointing of late, as short-term rates have been rising but long-term rates have not kept pace. While the average dividend for closed-end funds tied to municipal bonds was 5.6% as of April 30, that's down from 6.3% in 2004. In addition, because closed-end funds are traded on an exchange, where demand usually is weak, they very often trade at a discount.

"I wouldn't be there right now," says Don Cassidy, Lipper senior analyst. "Because of their close correlation with interest rates, these funds can be particularly risky for retirees or other investors looking for steady income."

Subscribe Now

Access to premium content including in-depth coverage of mutual funds, hedge funds, 401(K)s, 529 plans, and more.

3-Week Free Trial

Insight and analysis into the management, marketing, operations and technology of the asset management industry.