Investment professionals are increasingly accepting, particularly after 2022’s turbulent market performance, that private-market investments should become a larger part of accredited investors’ portfolios. After all, incorporating investments like private equity, private real estate, private credit and venture capital into portfolio allocations can enhance returns while still serving as a hedge against gyrations in public stocks and bonds.
Unfortunately, the main hurdles have been accessing these opportunities and navigating the highly complex due diligence process required to properly vet each investment. While institutional investors have seemingly had their pick of the litter regarding private-market opportunities, as well as the teams and resources necessary to effectively diligence them, individual investors have traditionally had a very different experience in this arena.
Luckily, that situation has begun to change.
A new report from alternative-market data provider Preqin suggests that fund managers are pivoting toward attracting more high-net-worth indviduals as an alternative source of capital as it’s become increasingly challenging for them to raise capital from institutional investors.
It’s not that institutions are abandoning private assets. On the contrary, Preqin points out that institutions have funded global private markets to the tune of more than $1 trillion for the past several years. However, that flood of capital has meant that institutional investors are coming close to meeting their long-term asset allocation goals, which will no doubt impact fundraising overall.
Preqin forecasts that institutional global private capital fundraising will grow to $1.58 trillion by 2027 – from $1.16 trillion in 2022. However, that represents just a 3.57% compound annual growth rate over the period, a dramatic slowdown compared with the 11.7% growth rate between 2015 and 2021.
Bain & Company points out that there has been a disconnect between available capital and private market opportunities for quite some time. According to the consulting company, individual investors hold roughly 50% of the estimated $275 trillion to $295 trillion of global assets under management. However, those same investors represent just 16% of AUM held by alternative investment funds.
As a result, more alternative asset managers are launching, or will launch, funds specifically designed to capture more private, retail wealth. According to Preqin, KKR has raised $66 billion from private wealth and expects between 30% and 50% of fundraising to be from this space over the next several years. Similarly, Apollo Global Management plans to raise $50 billion of retail capital between 2022 and 2026.
That retail push is a potential boon for advisors of all stripes. Many financial advisors have shied away from offering alternative strategies, in many cases because they are considered “exotic” or for fear that clients are more comfortable with a stock-and-bond portfolio. Yet, many private-market funds, as they try to build retail allocations, will be marketing directly to accredited investors. Advisors need to be well prepared to help diligence these offers for their clients, or align with other RIAs who specialize in private markets.
Perfect timing for HNW clients
In our view, the increasing number of private-market investments couldn’t come at a better time. Opportunities in the equity markets have shrunk. There are 50% fewer publicly traded companies in the U.S. today than there were in 2000. What’s more, private companies represent a far bigger chunk of our economy. In the U.S., there are roughly 2,600 public companies with more than $100 million in annual revenue. By contrast, there are approximately 17,000 private companies in of this size.
For advisors and clients concerned about illiquidity and concentration risk, bear in mind that stock indexes don’t provide as much diversification as many people think. As of the end of April, just two stocks – Apple and Microsoft – made up a whopping 14% of the S&P 500’s total weighting.
Additionally, bonds, which have historically been safe-haven asset of choice for investors, have become increasingly uncertain given inflation and the current interest rate environment. That’s why, at Ballast Rock Private Wealth, we have counselled investors to reframe how they think about the traditional 60-40 portfolio.
Not one-size-fits all
Although the biggest private-fund managers are focusing more on individual accredited investors, it’s important to note that this does not mean that all HNW clients should participate in private assets. As with all investments, advisors should exercise caution because opportunities that will be appropriate for some clients may not be for others.
For example — and perhaps counterintuitively, depending on an investor’s portfolio construction, risk profile and financial goals — smaller private-market funds may often be the better choice. Even as large, well-known funds start marketing more aggressively, the simple brand value of a KKR or Apollo doesn’t mean they have the right risk profile, return expectations, or suitability for an individual investor’s portfolio. In particular, this is where an advisor’s expertise in properly vetting this class of investments is so important.
How should advisors perform the right diligence? While vetting these opportunities takes a special skillset, you should always start with the basics. What is the track record of the manager? Is the longer time frame for many private market investments suitable for the client’s liquidity needs?
Overall, we are optimistic about how the private-market landscape is developing. Private-fund managers’ increased interest in private wealth is inarguably a positive development for accredited investors seeking the benefits of diversification, an institutional-quality approach to portfolio construction and a hedge against market volatility. Specifically, we believe that augmenting clients’ investment choices can be a winning proposition if advisors carefully determine which opportunities are most additive to their portfolios.
Andrew Mescon is the CEO of Ballast Rock Private Wealth, a full service financial advisory firm with a particular focus on private-market assets.