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Mutual fund timing refers to the practice of buying and selling a particular mutual fund within a very short period of time, sometimes on the same day. Some traders engage in mutual fund timing in order to make a short-term profit on a fund whose price moves dramatically in a short period of time. Market timing mutual funds is not illegal, but it is not encouraged because it increases the fund’s transaction costs. These costs are distributed to all fund shareholders regardless of whether they practice mutual fund timing or not.
Most mutual fund companies will assess redemption fees as a penalty for buying and selling the same fund prior to a certain time threshold. The time limit to avoid this penalty can range from 90 days to as long as a year. This penalty is assessed in order to discourage mutual fund timing and to manage transaction costs in the fund. The transaction fee is structured so as to eliminate the profitability of mutual fund timing.
In 2003, several hedge fund companies came under fire for mutual fund purchase timing and so-called late trading. Late trading is the practice of processing trades that are placed after the market closing at 4 pm Eastern Standard Time (EST) as though they were placed prior to 4 pm EST. This enables traders to take into account global developments that happen after the market close in order to have an unfair advantage over other investors. The same companies were also investigate for colluding with investment banks to allow mutual fund purchase timing for preferred customers without penalties.
The investigation into the allegations of timing of mutual fund purchases and late day trading was part of a larger investigation that encompassed nearly every major investment bank in the United States at the time. These banks were accused of defrauding shareholders in various ways. Nearly every bank and brokerage firm named in the investigation settled with the Securities and Exchange Commission (SEC) and the New York Attorney General in the investigation, which lasted until 2006. The settlements amounted to billions of US dollars, and prompted large banks to change their practices to avoid similar actions in the future.
Market timing is different from mutual fund market timing. Timing the market is simply the practice of watching the movement of the market in order to determine the best time to buy or sell stocks. Market timing is a valid investment strategy, albeit somewhat ineffective over time.
Is there any time limit for selling the mutual funds?