The democratisation of private assets: how will it work?
In the past, private assets - like private equity - have been accessible only to large institutional investors.
But that’s changing.
One of the main reasons private asset investment has been out of reach for private investors until now is the nature of transactions. It can be very time consuming to source deals and complex to structure them, while exits can also take a long time and pose their own difficulties.
However, demand from private investors has been growing. Many of the large private asset managers that previously catered only to an institutional client base are developing more accessible products.
So what has led to this change? What does it mean for the industry? And what does it mean for smaller, private investors?
Here we explain the product, technology and regulatory developments that are opening the doors of private asset investment.
Demand heating up, supply is responding
The chart below shows a demand “heat map” for private assets. The growth among high-net-worth investors (HNWI) is expected to be faster than the traditional sources of capital, like endowments.
It’s important to note that the underlying asset classes haven’t changed.
An infrastructure loan can have a life of 30 years, and a private equity owned company a typical ownership period of 5-8 years. Neither of these facts have altered.
However, regulation around who can hold private assets has started to loosen, while technology is simultaneously breaking down the barriers of illiquidity. This means the supply of private asset vehicles that private investors can use is growing rapidly.
How have products evolved?
The fund structures used to access private assets can be grouped in two buckets: open-ended or closed-ended. These can be split into three degrees of liquidity; liquid, semi-liquid or illiquid.
Semi-liquid open-ended funds
Innovation in open-ended semi-liquid funds, especially for asset classes such as private equity, private credit and real estate, has been progressing rapidly. These feature monthly or quarterly subscription and redemptions cycles. Liquidity comes from two sources:
Investor subscriptions and redemptions
Subscriptions and redemptions are at the fund’s net asset value (NAV). This removes the volatility or market beta compared to closed ended funds, which rely on a secondary market for liquidity.
The liquidity management in a semi-liquid funds is achieved through portfolio construction and liquidity management tools. Portfolio construction provides the first line of defence. A well-constructed portfolio, one that is diverse by geography, sector, type and vintage, can engineer a level of “natural liquidity” that is regular and consistent. When we ran various simulations across our private equity investment programmes, we found that in all but the more extreme market situations, the level of natural liquidity was more than sufficient.
As a second line of defence, semi-liquid funds often use tools such as redemption caps or the possibility to suspend subscriptions and redemptions so the manager can better control liquidity within the fund. An associated objective is that by using these liquidity tools, it helps to moderate investor behaviour in the event of market stress events. If an investor knows they would have to wait three to six months before they can exit a fund, they are less likely to exit impulsively.