When my colleague cheerfully stated that his mutual fund investment would be maturing in a year’s time, I nearly got confused until he explained further.
It was a usual group conversation on personal finance during which a colleague, Kwame, chipped in that an equity fund account he had maintained for three years was left with just one year more to mature. As such, he was so happy that he would be redeeming his money in no time.
Well, Kwame may not be absolutely wrong. After all, he had been told by the brokerage company (while opening the investment account) that he could withdraw from the mutual fund after four years.
However, what he failed to understand was that the investment holding period given by the brokerage institution was for recommendation purpose only, other than a defined prescription to follow.
Undeniably, there are variant perceptions concerning the right time to redeem one’s money from a mutual fund account. This must not be surprising as knowing the right time to withdraw from mutual fund investments can be more difficult than we thought.
Factors to consider before withdrawing from investments
In reality, knowing the right time to withdraw from an investment goes beyond counting the number of years the money has stayed invested.
To cash out from a mutual fund investment, many factors must be considered. These include, but not limited to, investment objectives, associated fees and commissions, performance of the investment, rebalancing of investment portfolio, etc.
Considering your investment objective
Ideally, every investment comes along with a defined objective. You invested your money for a reason and for that matter would like to cash it out at the right time for the planned expenses.
For example, your investment objective may be for retirement income. It may also be for a down payment for your mortgage loan, to pay a college fee, or even for a short-term goal such as going on a vacation.
Obviously, for short-term objectives, you may have invested in short-term investment products such as money market fund. However, if the time is due for these objectives to be fulfilled, it would be appropriate to consider withdrawing from the investment.
You may have also invested in an equity fund for long-term goals but realise that the goals are fast approaching. In such instances, it would equally be appropriate to withdraw from the equity fund and probably deposit in a low-risk investment account.
For example, after patiently investing in HFC equity trust for your retirement needs, you may find it necessary to divert portion of the investment to HFC unit trust when you’re closer to your retirement age.
Considering fees and commissions
The importance of assessing fees and commissions charged on mutual funds does not end after the account opening. Indeed, it is still necessary to have a further look at them before any withdrawal is made.
Fees and commissions can affect returns made on your investment. In a previous post on investment fees and commissions, I mentioned front-end load and back-end load as the two main direct costs charged on mutual funds.
While front-end loads are charged upfront during the account opening process, back-end loads, on the other hand, are charged when exiting from the funds.
Considering front-end load
Currently, the front-end load on major money market funds in Ghana is 1% of the invested capital. Since the front-end load is charged once on the invested capital, it would mean that the longer the money stays invested, the less expensive the fee.
For example, if you invest in a money market fund (such as HFC Unit Trust), 1% of your invested capital would be deducted as a front-end load no matter how long the money stays invested.
In effect, if you decide to take back your money just after two months, it would cost you more (1% fee in two months) than waiting for about six months, one year or even more.
Considering back-end load
It is equally important to consider back-end load before exiting or withdrawing from a mutual fund investment. An investor who withdraws from his mutual fund account prematurely is charged a back-end load on the withdrawal amount.
Currently, most equity fund managers charge back-end load of 1-3% on withdrawals made before 3 years. For example, if you invest in FirstBanC Heritage fund and wish to cash out within one year, you would be paying an exit fee of 3% on the withdrawal amount.
This fee decreases to 2% if you’re making the withdrawal in the second year of your investment, 1% in the third year and subsequently no fee after the third year.
As you can see, to reduce or avoid paying such fees, you would need to keep your investment for at least three years before any withdrawal.
It must be noted here that the counting of the number of years is done in reference to the actual dates the investment deposits were made. Interestingly, it is unusual of us as investors to make just a one-time deposit until ‘maturity’.
As you know, we regularly top up our mutual fund investments after the initial investment capital. What we forget to understand during withdrawals is that the subsequent additional deposits may not have stayed in the account for more than three years. Consequently, the lack of this awareness cost us money in the form of back-end loads (fees).
Let’s assume you opened an EPACK account with Databank financial service way back in 2008. After 8 years, you realised the importance of topping up your account and therefore made your second deposit in 2016 and a subsequent third deposit in 2017 as shown in the table below:
||Bid price, GH¢
||Offer price, GH¢
|19th Nov 2008
|21st Nov 2016
|21st Nov 2017
Total acquired units
Having maintained the account for about 10 years, you decided to make your first withdrawal on 7th February 2018.
Now, on the 7th of February 2018, the bid price of Epack was reported as GH¢3.7385. Thus the value of your Epack investment would be GH¢4837.36 (That is, 1293.93 × 3.7385 = GH¢4837.36).
Out of this figure, you would like to withdraw GH¢4000. Thus, you would need to sell 1069.95 units in order to cash out the GH¢4000. [That is, 4000/3.7385 = 1069.95]
Unfortunately, not all the 1069.95 units had been acquired for more than 3 years. Even though your account had been opened far more than three years ago (since 2008), you may still be paying exit fees due to the top-ups you made in the recent years.
From the table, it is clear that only 595.24 units (acquired during the account opening) had been maintained for more than 3 years. Thus, any additional unit withdrawn in excess of the 595.24 would attract exit fee (back-end load).
To avoid paying such fees, you would need to limit your withdrawal to an equivalent amount of the 595.24 units (which is GH¢2225.3).
You can therefore wait patiently for the recently-acquired units to exceed the minimum three-year holding period before any further withdrawal.
Considering performance of the investment
Certainly, earning more on our money can be argued as the main reason of investing. As investors, we all expect some returns on our invested money. Thus, having a look at how our investment has performed is necessary when deciding to cash out.
Before withdrawing from your investment account, it would be appropriate to ensure that your invested capital has made some profits. Depending on the kind of mutual fund, the investment may need some patience to grow.
This is particularly pertained to equity and balanced funds which are driven by the stock market. In a way, the longer your money stays invested in an equity fund, the better the earning prospects.
Actually, it is not just equity-based investments that enjoy good returns when maintained for long. Keeping your money market investment longer can similarly earn you more profits even though not so significant.
In a previous post, I mentioned that investment returns on money market funds are not equally distributed over the investment period due to the effect of compound interest.
For instance, if you invest GH¢1000 in a money market fund and decide to withdraw your money after six months, you would not be expected to earn half of the published annual return. This can even worsen as your investment duration keeps reducing.
Let’s assume you invested GH¢1000 in HFC unit trust (a money market fund) on 30th January 2017. The reported annual yield at the time of investment was 20.55%.
In the post about percentage rates of investments, I explained annual yield as an estimated rate of return on an investment assuming the investment capital remains intact for one year (365 days).
Over the course of one year, your investment in the HFC unit trust would look like what is presented in the table below:
||Bid price, GH¢
||Offer price, GH¢
||Value of investment, GH¢
||Calculated annual yield, %
Note that the initial value of the investment was GH¢990 due to the front-end load of 1%.
As depicted in the table, the longer the money stayed invested in the fund, the closer it got to their reported annual yield of 20.55%.
Depending on the kind of money market fund, the yield can even be more concentrated at the latter part of the investment period. This is because some fund managers invest significant portion in bonds, which require relatively more time to mature. Hence, to benefit from the proceeds of these bonds (upon their maturity), you may need to stay invested for a while.
Considering portfolio rebalancing
Due to the different growth rates of various investment assets, it is usual to notice changes in your portfolio mix over time.
For instance, depending on your investment goal, you may be having 40% of your assets in short-term investment products, 20% in equity funds, 10% in stocks and 30% in real estates.
However, because of the outgrowing pace of your equity fund or stocks, you realise that the percentage of your short-term products significantly reduces from the 40% to about 25%.
In order to restore it to the 40%, you may be required to withdraw some money from the outgrown equity fund to be deposited in the short-term investment account.
By doing this, you are rebalancing your investment portfolio. Note that rebalancing can also be done without going through the withdrawal process if you have extra source of fund to do so.