Investors stuck paying annual fees at private debt funds that halted redemptions, sometimes for years

As Canada’s real estate development crisis deepens, a growing number of retail investors are trapped in struggling funds that lend to construction projects or invest in commercial assets – unable to sell, but required to keep paying annual management fees.

It is a frustrating scenario for investors who are desperate to sell − particularly retirees who once bought these funds for their premium yields and stability, only to watch their returns deteriorate and their distributions get cut.

It is also a warning. Funds that invest in private assets such as real estate, infrastructure and private equity are increasingly being pitched to retail investors, and they are often marketed as having better long-term returns than mutual funds and exchange-traded funds that invest in stocks.

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In August, U.S. President Donald Trump signed an executive order directing government agencies to make it easier for pension funds and retirement accounts to buy private assets, and last week, Goldman Sachs said it will invest up to US$1-billion in T. Rowe Price Group and also partner with the fund management company to offer private market products to retail investors.

Yet when private assets struggle, investors can find themselves trapped for years – and they are required to keep paying the fund managers.

“Why is everybody pitching all these things?” Barry Schwartz, chief investment officer at Baskin Wealth Management, said in an interview. “The answer is pretty simple.” Private assets are capable of delivering strong returns, but they are also “sticky” products that provide a steady stream of fees for fund managers, even in tough times.

In the case of Romspen, which runs a $2.5-billion Mortgage Investment Fund that specializes in short-term commercial mortgages in Canada and the U.S., investors have been prevented from selling since November, 2022. The fund charges a 1-per-cent annual management fee and delivered a negative 2.8-per-cent return over the 12 months ended June 30, after accounting for all distributions and fees.

The FTSE Canada Short-Term Overall Bond Index delivered a 6.3-per-cent return over the same period, while the S&P/TSX Composite Index delivered a 26.4-per-cent return.

The act of freezing redemptions, also known as “gating,” prevents investors from taking their money out of a fund. Investment managers often tell clients that doing so is in their best interests because if too many people tried to cash out, the fund would have to sell mortgages or developments at firesale prices.

But it is hard to know how long the gates will stay up. When Romspen halted redemptions, investors were told it was a temporary situation as the market adjusted to rising interest rates.

Nearly three years later, they still aren’t able to sell.

Management was asked about the fees at the fund’s annual meeting in June, and investors were told it’s a complicated situation. Romspen, for instance, is in legal fights over some developments, and management fees help fund these expenses.

In an e-mail to The Globe, Romspen managing partner Derek Jenkin reiterated these nuances. “Reducing the management fee during a gating period may not result in a material benefit for investors. However, it may severely hinder a fund’s recovery effort and increase operational risks,” he wrote.

“Being gated does not equate to passive management. Typically, more work effort is required while gated. Operating and staffing costs tend to increase significantly during difficult markets as compared to normal markets.”

Romspen isn’t alone. The list of real estate funds that have halted redemptions, at least temporarily, has kept growing.

In late 2023, Hazelview Investments halted redemptions on its $1.3-billion Four Quadrant fund, which invests in a mix of private and public real estate assets and charges 1.25 per cent annually. After the initial halt was lifted, Hazelview temporarily enforced one again six months later as redemption requests totalled $384-million, or roughly 30 per cent of the fund’s total assets. Hazelview declined to comment, but noted the fund is not currently gated.

In the fall of 2024, KingSett Capital Inc. halted redemptions and distributions on its flagship Canadian fund, the Canadian Real Estate Income Fund, which had $1.9-billion in equity and a total value of $4.9-billion including debt. It is unclear when KingSett will restart redemptions. The company declined to comment for this story.

More recently, in August, Trez Capital, another of Canada’s prominent private commercial mortgage providers, halted redemptions from five of its own funds.

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Even when redemption halts are short-lived, the frustration they create for investors can linger. In the best of times, many funds limit how much can be redeemed each quarter − often 5 per cent of the portfolio − so if a large queue of investors line up to cash out, it can take them years to get their money back.

Mr. Schwartz from Baskin believes the consequences of getting trapped are rarely appreciated, particularly by retirees who often rely on investment income.

“Retirees live off their portfolios,” he said in an interview. In these later years, unexpected events and expenses often come up, but when the cash is needed, he added, “here you are stuck in all these products.”

With stocks, however, “you may not like the prices you can get out at, but you can get out.”