Challenges for advisors in making private investments

Transcript

My name is Wayne Yi. I'm the chief investment officer at Simon Quick Advisors, an RIA based in New Jersey but with offices across the country. We provide wealth management and financial planning services to high-net-worth individuals, utilizing all the traditional tools of fixed income and equities, as well as private equity and hedge funds.

One of the hurdles in investing in private markets is that there is more of a process in which you commit to an opportunity, invest in it, and then receive the capital back. When you compare that to public investing, you can just go into your Fidelity or Schwab account and buy a stock or the same thing for a fund. When you invest in hedge fund strategies, as soon as you submit your documents and wire the capital, you're invested in the pool of that strategy. However, with private asset investing, you make a commitment to invest over the course of the next five years and then hold on to those investments over the next five years. But in that period, you need to make sure that you have the money available so that when the sponsor calls or requests capital to fund a new investment, you have that money available. The money will move into the fund and, eventually, move back out to you on the distribution. But there is much more of a flow of capital that works through that process. The timing of statements is a little bit slower as well, in the sense that mutual funds are priced daily, hedge funds typically monthly. For private assets, typically, you're more looking at a quarterly type rhythm, so there is less information flow than a more liquid security investment portfolio. These all add to the complexities of investing in private assets versus more liquid markets.

Portfolios tend to own maybe a dozen different businesses that, as an investor, you get to know very intimately and watch grow over time. But to that end, it takes time for that to really show itself in terms of performance. So, some of the things that must be taken into consideration is just the timeframe at which private assets should be worked into a client portfolio. And while private investing should be a long-term strategic allocation, there is a timing element that you do want to avoid. Yes, there may be certain periods that are better than others in terms of when you put that money to work, but these funds tend to invest over multiple years. So trying to nail that single point in time where you want to invest the vast majority of capital doesn't really play out in this market when you look at a fund's structure.

Any investment you make, whether it's in the public market or the private market, you should be looking to invest through a business cycle. Typically, that's about five years; sometimes, it could be as short as maybe two or as long as ten plus. But you want to invest through that cycle to maximize your return. Public markets broadly tend to be much more driven by sentiment, which can really ebb and flow. And how does that show itself? Price-to-earnings ratios tend to be a big component of determining valuation for stocks. Private equity or private investments also have valuation components that do, I’d say, correlate with public markets but at a slower, more gradual pace than what you might find in the public space. In that regard, you can find businesses at a more consistent, steady rhythm than trying to chase that next fad and being in the best new tech stock and trying to out before the stock market turns on those names. So, private investors can take their time to be more patient to find the right opportunity and really kind of align that with active investing or active engagement and operational enhancement as well.

One of the challenges of investing in private assets or alternative investments broadly is that there is a higher fee expectation versus traditional stock and bond portfolios. We recognize it. We want to compress those as much as possible. However, at the end of the day, we need to make the call on whether or not those fees are justified by the sponsor. Whenever we look at an investment, we think through the net of fee performance, and was that attractive enough and achievable elsewhere? If it is achievable elsewhere, then maybe those are areas you can look. But we do find enhanced, high-quality returns that are generated by private equity and private assets investors that do justify that fee structure because it is a more complicated asset. It takes time to find these businesses, structure them, invest in them, work with investors in terms of taking in money, redistributing that money. So, because of those operational necessities, there is an element of being more expensive than your traditional ETF. We just wanted to make sure that it is aligned with the client experience and the return expectations and not just padding the wallets of the underlying sponsors.