Exchange Privilege

What Is Exchange Privilege?

Exchange privilege is the opportunity given to mutual fund shareholders to exchange their investment in a fund for another within the same fund family. This privilege can be used for a number of market strategies.

Key Takeaways

  • Exchange privilege is the opportunity given to mutual fund shareholders to exchange their investment in a fund for another fund within the same fund family.
  • Investors who take advantage of exchange privilege within a fund family are able to rotate their investment strategy based on market conditions and generally take advantage of the various funds offered by the mutual fund company.
  • Certain exchange fees or capital gains taxes may apply, though the former is usually very minimal.

Understanding Exchange Privilege

Exchange privileges can be utilized by all types of investors and are especially useful for do-it-yourself investors. Exchange privileges allow an investor to exchange ownership from one mutual fund to any other mutual fund in the fund family. Some investors may choose to utilize this privilege in their overall investing strategy, which can be more easily deployed when setting up a family of funds account.

Family of Funds

Setting up an account with an open-end mutual fund company can be a great way to build a portfolio of diversified mutual funds at a low cost. All open-end mutual funds are transacted through the fund company rather than on exchanges. Therefore, mutual fund companies allow investors to set up individual funds and buy and sell mutual funds directly with the fund company. Sales charges are typically waived when using this approach. A fund family account can allow investors to take full advantage of all that the fund family has to offer. Exchange privileges are also allowed outside a fund family account, though they may be more difficult to deploy.

Operational Expectations

Exchange fees on fund family exchanges are typically very low, and many fund companies will not charge exchange fees at all. In some cases, there may be a limit to how many times an investor can switch funds within a year. When exchanging funds, an investor can move from one share class within the fund to another share class within the same fund. They may also exchange from one fund into any other fund in the fund family. In doing so they exchange their total shares for the same number of shares in another fund. Investors should be aware that this could result in a tax burden if a capital gain occurs.

Operational procedures for fund exchanges vary by the fund company administering them. Investors may need to speak with a fund representative directly to initiate the exchange of funds.

Exchange Privilege Strategies

Exchange privileges can help an investor in many ways. For one, the investor can use the exchange privilege for rotational strategies that follow market conditions. In rotational strategies, an investor can rotate into and out of different funds to preserve capital and take advantage of market changes offering potential capital appreciation opportunities. A second way exchange privileges can be useful is for investors approaching retirement. Exchange privileges allow an investor to exchange out of higher-risk funds and into more conservative funds as retirement nears. These strategies are often utilized by do-it-yourself investors and can reduce some of the costs involved with full-service advisement.

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