Keynote interview: The growing attraction of private markets
There are whole swathes of the economy that simply cannot be accessed through public market investment today, thereby boosting private markets’ appeal, says Schroders Capital’s Tim Boole.
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Q: How has private investor appetite for private markets evolved in recent years?
We have seen a significant increase in demand for private markets exposure from private clients, and I think there are a number of reasons for that. Interest rates were very low for a long period and, while that has now started to change, rates remain relatively low on a historical basis. As a result, private investors are looking to private markets to boost their returns.
The other big factor at play here is that the economy is changing. There are more and more opportunities that simply cannot be accessed through listed markets, in part because there is so much more capital available in private markets today. The development of the private equity industry, of infrastructure finance and private debt, for example, has meant that companies can raise large amounts of money without needing to go public. The only way that investors can access those sectors, therefore, is through private markets.
Regulation has also had an impact. Over the past 10-15 years, regulatory frameworks have increasingly opened private markets up to private investors. In addition, advances in technology have played an important role. In short, there are various demand and supply side factors that have all contributed to today’s dynamics, where there is much greater interest in private markets among private investors. I expect that to continue.
Q: What barriers to entry have historically prevented private investors from accessing private markets and how are new structures solving these challenges?
The classic way for institutional investors to access private markets is through a limited partnership structure. The institutional investor makes a commitment, typically of millions of dollars, and the manager will then call that capital when it finds opportunities in which to invest.
There are a few factors there that are difficult for your average private investor to deal with. First, there is the size of the commitment, and then there is the requirement to transfer cash at short notice. Furthermore, these structures can continue for up to 15 years, or sometimes longer, all of which means private investors have historically found these asset classes challenging to penetrate.
Over the last few years, however, we have seen a great deal of product innovation. Private markets managers have recognised that private investors represent a sizeable source of wealth and that structures need to be adapted to better suit this new group of clients.
Firms that have been managing money for private investors for many years, like Schroders, have responded by combining their expertise in the mutual fund and private markets worlds to create something with a simple subscription process and lower minimum investment threshold. The other big change has been the proliferation of evergreen funds, which goes some way towards alleviating private investors’ liquidity concerns, although it is important to emphasise that these are still fundamentally long-term investments.
Q: Where has technology had the biggest impact in this process?
Technology is playing a role in a number of areas, and I think we are still only at the beginning of that journey. Investors can now submit a subscription, often through a digital platform, without the need for any paper forms. Similarly, investors can receive online reports on their investments, which takes out cost.
Where I think technology can make the biggest difference, however, is through the creation of digital exchanges for the purpose of buying and selling fund interests. This also leads on to the idea of tokenisation.
Q: How are private markets managers changing the way they partner with private wealth advisers?
Initially, wealth managers were looking to onboard a handful of private markets funds that gave basic coverage of each of the main private asset classes, and that is still often the case. However, over the past few years, wealth managers have begun to recognise that the private markets world is enormous. The volume of capital invested in private markets every year is growing, after all. It is unrealistic to expect any single private equity fund to cover the full breadth of the opportunity. As a result, wealth managers are beginning to develop their own bespoke solutions.
They are approaching private markets managers about the possibility of creating a tailored strategy that represents the part of private markets they believe their clients are most interested in. That could mean something that is more orientated towards income or capital growth. It might also mean a product that is slightly shorter or longer term, depending on their clients’ tolerance, or it could be they are looking for something that is easier to trade in and out of. These wealth managers are looking to private markets managers to help them develop these solutions. That is a value-add they want to offer their clients.
Q: How should wealth managers be thinking about their operational infrastructure when it comes to accessing private markets?
This is another factor that is driving the development of these customised portfolios alongside private markets managers. A lot of wealth managers still find it difficult to access private markets. Some mutual fund platforms have begun to adapt, but many are still unable to cope with funds that provide NAV on a monthly basis, or that only allow subscriptions and redemptions every month or every quarter. Wealth managers either need to invest in the technology to adapt their systems or else work with private markets managers to solve these challenges.
For example, we can structure funds with access to different strategies using our own fund operations platform. We have also developed funds focused on specific sectors, where our wealth manager partners have created feeder funds for their clients.
Q: What compliance considerations need to be taken into account?
First, wealth managers need to consider whether it is appropriate for their clients to be investing in private markets. Then there is also regulation to be observed. Some markets are restrictive regarding whether private markets products can be offered to investors not deemed to be qualified or professional.
We work closely with the wealth managers and private banks we partner with to ensure we offer them products that can best be accessed by their client base. There is no point creating afantastic product that only suits a small proportion of that wealth manager’s clients.
Q: What role does education need to play in the democratisation process?
Education can make or break a fundraise. That means educating those individuals dealing with end clients, in other words the relationship managers who need to understand what it is they are offering their clients, and the end clients themselves who need to be comfortable with what they are investing in.
Democratisation has gained momentum so quickly that that education piece has not always kept pace, but it is vital to be able to support clients in this way. When we are working with wealth managers and private banks, we host seminars and conferences where their clients can ask questions of our investors and portfolio managers around the sorts of companies they invest in, how the investment process works and how due diligence is conducted, for example.
Q: What can private markets exposure offer private investors in terms of impact?
Investing in private markets allows you to target specific impact themes or strategies in a way that isn’t always possible in public markets. For example, if you are interested in climate change, you might back a company producing a technology that enables other companies to solve an emissions problem. If that company was part of a large, listed multinational it would typically be involved in many activities, in addition to the technology you wanted to use your capital to promote. Furthermore, you would probably be buying your shares from another shareholder, so you are not really changing anything, beyond the share price.
If the company was privately owned, however, the money you invest would most likely be new money. The company would typically also be of a smaller size and so your capital would go directly towards supporting and promoting that technology. In other words, you have a lot more power and discretion over how you address a specific impact theme.
Finally, the shareholder base of a private equity-backed business is generally more concentrated, which means you have more influence over how that business operates and how it focuses on impact themes, when compared to being one of thousands of shareholders in a large multinational, where your voice inevitably gets lost.
Q: How do you see the democratisation process evolving?
The democratisation of private markets is happening at different speeds in different markets. There is no one size fits all. In Switzerland, for example, private banks are generally comfortable with offering these products to suitable clients. By contrast, despite the development of the European Long-Term Investment Fund regime, there is still some inertia in other areas of Europe, although interest is growing.
In the UK, which has a long history of investment trusts, the Long-Term Asset Fund is beginning to gain traction with defined contribution plans and private investors, and in the US, private markets can now be accessed by 401(k)s. So, each market is starting from a different base and they are moving at varying speeds.
Fundamentally, however, I believe private markets should play a role in most client portfolios where appropriate, and I do see democratisation as a long-term trend.
This article was first published in Private Equity International.
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