Private Equity to the People? Considering the Impacts of Adding Retail Investors to a GP’s Investor Base

by Andrés Ramos, Content Marketing Specialist – Nasdaq Private Fund Solutions

What will the introduction of retail capital mean for the private fund industry?

In the twelve months that have passed since the U.S. Department of Labor’s June 2020 announcement clarifying and confirming that 401k plans could deploy capital to the private markets, retail capital has been top of mind for investor relations and business development teams across the private markets industry.

Many are excited about the boost that would come to their fundraising efforts via unlocking a massive new block of previously inaccessible capital. Some managers are already acting on this government guidance while others are weighing the implications of adding retail clients to their investor bases.

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To help get some answers to that question, we asked a range of industry practitioners during a recent eVestment-hosted event, Evolving Private Markets: Exploring the LP/GP Relationship of Tomorrow.

Here are some of their key takeaways and considerations for GPs exploring the prospect of retail investors.

What does “retail” truly mean for the private markets and is the juice worth the squeeze?

At present, the “retail investor” moniker is being applied to 401k plans that invest the retirement savings of working professionals. In practice however, these plans operate and invest in much the same way as the large institutional clients that private fund managers are already familiar with. Ostensibly it would not seem to be a difficult proposition for private fund managers to be begin marketing their products to these large asset managers.

That said, 401k plans have different needs in terms of portfolio valuations, performance reporting, and liquidity compared to other institutional investors. Catering to these additional needs could be a challenge for fund managers who do not already have the systems in place to address them.

This will lead GPs to ask questions like:

Are the added requirements worth the influx of additional capital?

Will highly sought-after fund managers with excess demand from institutional managers even bother with retail investors?

Geoff Kelleman, Managing Director at Portfolio Advisors offered an interesting view on this dynamic:

Do we end up seeing at a certain point of bifurcation of those GPs who tap into retail and those GPs maybe it’s probably by size or strategy would say, ‘You know what? I have enough demand. I don’t need to deal with that.’ And does that become politicized? I think these are questions that the industry is going to have to work through.

Are GPs ready to give up a share of their fees?

Beyond 401k plans, the next block of retail investor capital that may open to private fund managers is the capital directed and advised on by wealth management firms. While the size of this untapped market is compelling, most private fund managers do not have the resources needed to market their funds and strategies to the countless retail investors that make up this segment.

To that end, private fund managers will likely have to rely on the wealth managers who work directly with these retail investors to handle marketing and fundraising efforts on their behalf. This approach would mean creating fee sharing arrangements with wealth managers that would cut into fund managers’ margins. As Jill Zucker, Managing Partner at McKinsey, explained,

I think the power is increasingly with the distributors… so, I do think we have to think about how is the profitability going to shift. What is the fee structure that retail will bear? And how much are you going to pay the distribution networks for access to the capital that retail holds.

Private fund managers must decide if they are prepared to see their margins tighten further by paying for access to these investors and whether the size of new commitments can justify the added cost.

Is retail capital the answer to the wrong question?

In rounding out the discussion on retail investors Jill opined further on the topic by questioning whether growing investor bases and fund sizes is really what fund managers need to be focused on at the moment, “Do you need capital, or do you need deal flow? To me there’s excess capital at the moment… so the question right now is more around ‘what are the deals?’ versus ‘where do we find other sources of capital?’”

Jill’s point is reinforced by data that suggests in 2021 buyout funds alone have over $750 billion in dry powder available to invest.

Private fund managers must decide if they are prepared to see their margins tighten further by paying for access to these investors and whether the size of new commitments can justify the added cost.

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