Investment Selection

Mutual funds and exchange-traded funds (ETFs) are both effective vehicles for investors to gain access to a wide array of asset classes and strategies in a diversified way. ETFs have historically been vehicles for passive strategies that are based on a defined index. They trade like stocks which can be bought and sold throughout the day and incur implicit trading costs. Mutual funds have historically been the vehicle of choice for active strategies, partially because their holdings don’t have to be reported in real time. Mutual fund orders are executed just once a day at the end of the day, generally at a fixed dollar commission. Both fund structures are mainstream with investors often choosing one investment option over the other based on their investment strategy.

An interval fund is a kind of mutual fund that is considered “closed-end” in that it has a fixed number of outstanding shares and limited redemption opportunities. Because of these limitations, an interval fund is less liquid than a traditional “open-end” mutual fund. Many alternative or private investment options that do not work in traditional open-end mutual fund or exchange-traded fund (ETF) format can be offered to individual investors through an interval fund.

Private investments are ownership interests in non-registered entities’ securities. The three most common types of private investments are (1) private equity (ownership interests in non-public companies), (2) private credit (typically loans to non-public companies), and (3) private real estate (ownership and rental operations of buildings).

Since private companies don’t trade on a regulated public exchange, they are only accessible to sophisticated investors, which is usually defined by the amount of wealth you have. Most private funds are only available to “qualified purchasers” who have $5 million or more in investable assets, excluding the value of their primary residence. For investors with less than that, there are other strategic investment options to consider, such as interval funds.

Market efficiency refers to how reflective current market prices are of all information available to investors. U.S. large cap stocks are thought to be very efficiently priced, with most, if not all, available information scoured over by many investors, all interested in maximizing their returns. Some say small cap and international stock markets are less efficient, with not all available information reflected in prices at any given time. Less efficient markets offer more investment options for managers to take advantage of securities that they believe to be over- or under-valued.

Tracking error refers to how close the performance of an investment strategy or security (e.g., mutual fund, exchange-traded fund (ETF)) mirrors the performance of a relevant benchmark index. Active managers who significantly over- or under-weight securities or sectors relative to a benchmark will often have higher tracking error than passive managers that strive to keep overall weightings in line with a benchmark. Higher tracking error can be beneficial in less efficient markets, where there are more investment options for managers to benefit from price inefficiencies.