Sep 09. 10:12
How Do Interval Fund Redemptions Work?
No, not that kind of redemption. The kind of redemption that interval funds are legally required to offer on a periodic basis in order provide some degree of liquidity to their shareholders.[i] If you’re anything like me, investing in interval funds with alternative assets sounds like an amazing opportunity, but I had no idea what “redemption” meant, or how I could pull my money out from the investment.
Legally, interval funds must have a repurchase period every three, six or twelve months, and the fund must repurchase between 5% and 25% of its outstanding shares, should investors elect to cash out.[ii] In practice, most funds offer quarterly repurchase periods for up to 5% of outstanding shares. That means that, once every three months, you will receive a letter in the mail asking if you would like to pull some or all of your money out of the fund; if not, it will continue to compound, often with regular dividend reinvestments made on your behalf by the fund.
Imagine you’re one of these three millennials, and you’ve finally saved up enough money from your four side gigs to meet the minimum investment amount for "Sunny Side Up Interval Fund,” which is $1,000. This interval fund offers quarterly redemptions for 5% of its shares. Here is what this process would practically look like:
1. You invest $1,000 with Sunny Side Up Interval Fund on January 1, 2020, at a time when the Net Asset Value (NAV) is $25/share (NAV = market value of all shares minus all liabilities, divided by the number of shares issued). Therefore, you own $1,000/$25 = 40 shares.
2. Five years go by in a flash, and the sweet Airstream you and your partner worked so hard to refurbish is just a broken dream of your past, and now, on January 1, 2025, you are strapped for cash and want to redeem your shares in Sunny Side Up.
3. Sunny Side Up sends you a repurchase offer letter via regular mail every quarter (end of March, end of June, end of September, end of December). You usually throw them in the recycling bin, BUT NOT TODAY.
4. The repurchase offer letter includes all the terms for the repurchase, and it states that the current NAV on 12/31/2024 is $30/share, but the “Repurchase Pricing Date” is January 18, 2025, so your redemption will be based on the NAV on January 18, 2025 (which for the purposes of this exercise, we will leave at $30/share). Also, your Repurchase Request Form must be received in proper form by 4:00 p.m., Eastern Time, on January 18, 2025.
5. You can either do a “full tender” or a “partial tender,” meaning you can sell all your shares back to the company, or you can sell some of your shares back to the company. You decide to do a “full tender” and sell all 40 of your shares back, which means 40 shares at $30/share = $1,200.
a. In a first hypothetical scenario, Sunny Side Up now has 100,000,000 outstanding shares and is offering to buy back 5%, so the fund can repurchase up to 5,000,000 shares. In the case that investors of less than 5,000,000 shares request their shares to be sold back to the fund, YOU GET A CHECK FOR $1,200 within seven calendar days from the Repurchase Pricing Date.
b. In a second alternate scenario, let’s say owners of 5,500,000 shares want the fund to repurchase their shares, which is 5.5% of shares. The Repurchase Offer states: “If shareholders tender for repurchase more than five percent (5%) of the Fund’s outstanding shares (“Repurchase Offer Amount”), the Fund may, but is not required to, repurchase an additional amount of shares not to exceed two percent (2%) of the outstanding shares of the Fund on the Repurchase Request Deadline.”
i. 2% of 100,000,000 is 2,000,000, so the 5,500,000 is still within that extra 2% range, and let’s say the fund decides that it’s ok to repurchase the extra shares, so YOU STILL GET A CHECK FOR $1,200 within 7 calendar days from the Repurchase Pricing Date.
c. In a third alternate scenario, let’s say owners of 10,000,000 shares worth of investors want the fund to repurchase their shares, which is 10% of shares. The Repurchase Offer states:
If the Fund determines not to repurchase more than the Repurchase Offer Amount, or if shareholders tender shares in an amount exceeding the Repurchase Offer Amount plus 2% of the outstanding shares on the Repurchase Request Deadline, the Fund will repurchase the shares on a pro rata basis. However, the Fund may accept all shares tendered for repurchase by shareholders who own less than one hundred (100) shares and who tender all of their shares, before prorating other amounts tendered.
“Pro rata” means proportionally, so this means that the fund will buy back your shares in proportion to how many out of the total 100,000,000 shares you own – this scenario is covered below.
Now, because you only own 40 shares (which is less than the 100 shares referenced above), the Fund may repurchase your shares first before buying back the others, so YOU STILL GET A CHECK FOR $1,200 within 7 calendar days from the Repurchase Pricing Date.
Now, let’s imagine one more scenario where you don’t own 40 shares, and you are not a sad, overworked millennial; instead, you are CEO of World Famous Dog Hotels, you live alone with 3 cats in a Central Park West apartment, and you bought 2,000,000 shares, which you want to redeem. At the time of the repurchase offer, 10,000,000 shares worth of investors want to redeem their shares, which is in excess of the 5% repurchase offer. Any time more than 5% of shares are requested to be repurchased (and you own more than 100 shares), you will be paid pro rata, meaning you will be paid in proportion to what the other investors own in the Fund – so in this case:
5% of total outstanding shares equals 5,000,000 shares, times $30/share = $150,000,000, this is the total amount of money the Fund owes the investors that want to “tender,” aka sell their shares back.
Therefore, because your 2,000,000 shares is the equivalent of 2% of the whole Fund, Sunny Side Up will buy back 2% of the 5,000,000 shares (aka 5% of the whole Fund aka the maximum the Fund is allowed to buy back during one, quarterly redemption period) being offered to redeeming shareholders, which means the Fund will repurchase 100,000 shares from you (100,000 times $30/share = $3,000,000, is the check you’ll get within 7 calendar days from the Repurchase Pricing Date). So, you still have 1,900,000 shares, which you can sell back to the company at other repurchase periods.
· If you own a very small number of shares, let’s say fewer than 100, you will be able to sell back all your shares at once during one of the quarterly repurchase periods.
· If you own a medium number of shares, let’s say between 101 – 500,000, you will likely be able to sell back all your shares at once during one of the quarterly repurchase periods.
· If you own a large number of shares, let’s say over a million, you will be able to sell some of your shares during one of the quarterly repurchase periods, so in order to redeem all your shares, you will have to request partial tenders at different redemption periods.
Whether you want or need to sell back your shares is entirely dependent on each individual’s financial situation. But don’t forget, interval funds are a long-term investment! Now you have the essentials for how redemption of shares in an interval fund works!
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