The Pros and Cons of Investing in Interval Funds

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An interval fund is an alternative type of investment company, legally classified as a closed-end fund, that periodically offers to buy back a certain amount of shares from the shareholders. The price that shareholders are offered is based on the net asset value (NAV) at the time of purchase. Investors who buy interval funds are typically looking for high yields.

What to Know About Interval Funds Before You Invest

It's important to understand the interval funds are not the same as their similar-sounding cousins such as mutual funds, closed-end funds, and exchange-traded funds (ETFs). As with any type of investment, interval funds have certain purposes that can be used to an investor's advantage or specific investment objective. However, used incorrectly, interval funds can be potentially disadvantageous.

Here's what to know about interval funds before you invest:

  • Interval Fund Repurchase Offers: An interval fund will offer to repurchase a certain percentage of the investor's shares at set periods (called intervals) at a price equal to the fund's net asset value (NAV). The percentage of repurchase depends on the fund but typically ranges from 5% to 25% of the investor's fund assets. Repurchase intervals are most commonly on a quarterly basis but can also be biannual or annual.
  • Interval Fund Liquidity and Selling Shares: Interval funds are not liquid, meaning they are not easily converted into cash. Just as the fund will offer to repurchase a percentage of the fund at intervals, the investor is limited to selling shares at intervals.
  • Interval Funds vs. Closed-End Funds: Interval funds are classified as closed-end funds, but they're not the same. For example, interval funds do not typically trade on the secondary market and they typically trade at the fund's NAV. Closed-end funds do not share these qualities.
  • Interval Fund Holdings: One of the most unique qualities of interval funds is that they tend to invest in a diverse range of assets, which may not be held in other types of funds. For example, interval funds can invest in illiquid assets, such as farmland and forestry land, or other alternative investment types or securities, such as business loans and private equity funds.
  • Interval Fund Expenses: The expenses for interval funds tend to be significantly higher than open-end mutual funds, closed-end funds, and ETFs. Fees and expenses vary, but you'll likely pay management fees of 1.5% and higher, service fees up to 0.25%, and over 3.5% in annual fees. These costs are considerably higher than the expenses for most mutual funds and ETFs. Front-end sales charges, broker commissions, and redemption fees may also apply to interval funds.
  • Interval Funds Yields: The freedom to invest in alternate types of assets and limit investor redemptions (withdrawals) offers greater ability for interval fund managers to pay out higher periodic distributions to investors. Therefore investors may enjoy greater yields and higher potential returns than with other types of funds.

Pros and Cons of Interval Funds

Now that you know the basics of interval funds, you can determine if buying shares of this unique investment is a good idea. Like other types of funds, interval funds have their advantages and disadvantages.

Here are the main pros of interval funds:

  • Higher potential yields than other fund types
  • Access to alternative investments, such as business loans and private equity
  • Periodic offers from the fund to repurchase shares at NAV from investor

Here are the main cons of interval funds:

  • Not a liquid investment, meaning you can't redeem shares whenever you want
  • More expensive when compared to mutual funds, closed-end funds, and ETFs

Bottom Line

Most investors can receive the most common benefits of investing with conventional mutual funds or ETFs. These benefits include diversification, long-term growth of principal, and income from dividends. If investors are looking for other qualities in a fund, such as higher potential yields or access to alternative investment types, interval funds may be appropriate.